Bond traders are increasingly concerned that the U.S. economy may be heading toward a slowdown, as President Donald Trump’s tariff policies and cuts to the federal workforce create growing uncertainty. Traders who had previously anticipated a strong economic expansion under Trump’s leadership are now adjusting their expectations, particularly as signs of a potential recession emerge.
Market Shift: From Growth Optimism to Recession Concerns
The initial optimism that Trump’s policies would stimulate economic growth has swiftly turned to pessimism, according to bond market experts. Gennadiy Goldberg, head of U.S. interest rate strategy at TD Securities, noted that just a few weeks ago, investors were discussing the possibility of economic acceleration. Now, the risk of a recession is being discussed more frequently. “The market’s gone from exuberance about growth to absolute despair,” Goldberg said.
This shift in sentiment has caused Treasury yields to fall significantly since mid-February. The decline, which is particularly evident in short-term Treasury bonds, suggests that traders are positioning for the Federal Reserve to cut interest rates soon in an effort to avoid an economic downturn.
The Trump Trade: A Resilient Economy Replaced by Uncertainty
In recent years, bond markets were buoyed by the surprising strength of the U.S. economy, even as other global economies struggled. Following Trump’s election, investors expected that his policies would fuel faster growth, pushing Treasury yields higher. This formed the foundation of what became known as the “Trump trade.”
However, since mid-February, this outlook has changed. The uncertainty surrounding Trump’s administration, particularly due to his unpredictable trade policies, has caused yields to decline. This has led to a steepening of the yield curve, which typically occurs when investors expect the Federal Reserve to lower interest rates to stimulate the economy.
Trade Wars and Policy Uncertainty: Key Drivers of Market Anxiety
A major factor driving this shift is Trump’s escalating trade war, which has the potential to disrupt global supply chains and cause inflation. Last week, the stock market experienced a sell-off, partly due to concerns over tariffs and trade policies. While Trump delayed tariff hikes on Mexico and Canada, investors remain worried about the potential for further economic instability.
Additionally, Trump’s plans to reduce federal funding and cut government jobs are contributing to growing recession fears. Portfolio manager Tracy Chen of Brandywine Global Investment Management stated, “Recession risk is definitely higher because of the sequence of Trump’s policies – tariffs first, tax cuts later.”
Trump Responds: Economy in Transition
Despite mounting concerns, Trump has downplayed fears of an economic slowdown. On Sunday, he described the U.S. economy as being in a “period of transition” and pushed back against recession concerns. Following his comments, Treasuries rallied in Asian trading on Monday, with the 10-year yield falling to 4.27%.
However, the bond market’s reaction shows a clear divergence between U.S. and European bond markets. While German bond yields rose due to expectations of increased defense spending, U.S. Treasuries remained largely unchanged, indicating investor unease over the U.S. economic outlook.
Fed’s Approach to Interest Rates: A Balancing Act
Bond traders have frequently anticipated an economic slowdown in recent years, only to be proven wrong as the U.S. economy continued to grow. The market is now expecting the Federal Reserve to cut rates three times this year, but many analysts believe these cuts won’t be enough to avoid a recession.
Fed Chairman Jerome Powell has indicated that he is in no rush to ease monetary policy. He stated that “the economy continues to be in a good place” despite the current levels of uncertainty. Still, concerns about inflation persist, as the consumer price index is expected to show a 2.9% increase in February, well above the Fed’s 2% target.
Cooling Economic Signs and Recession Risks
Despite strong job growth in February, other economic indicators are signaling a slowdown. The Atlanta Fed’s GDPNow gauge has projected that U.S. GDP could shrink in the first quarter. Meanwhile, labor market data shows signs of weakness, with an increasing number of people permanently out of work, fewer workers in government jobs, and a rise in part-time workers.
Edward Harrison, a strategist at Bloomberg MLIV, noted that while the job report initially seemed positive, the details pointed to deeper issues. The weaker-than-expected data has contributed to the rally in Treasury bonds and the growing fears of a recession.
Uncertainty Over Trump’s Policies
The future direction of the bond market will depend heavily on the actions of the Trump administration. Treasury Secretary Scott Bessent acknowledged that Trump’s policies could disrupt the economy, but expressed confidence in the long-term outlook. In an attempt to ease market fears, Trump recently instructed his cabinet to use a “scalpel” rather than a “hatchet” when it comes to job cuts.
However, as the stock market continues to fall, Trump delayed tariff hikes on Mexico and Canada for a second time, a move that may not fully reassure investors. Despite this, Trump has continued with tariff increases on China and has indicated that more actions are planned against other countries.
A Shift in Perception: Tariffs Now Seen as Recessionary
Brandywine’s Tracy Chen observed that the perception of tariffs has changed significantly. Before the trade war, many market participants viewed tariffs as inflationary. Now, tariffs are increasingly seen as a risk to economic growth, fueling recession fears instead.
In conclusion, the bond market is signaling that recession risks are rising due to the uncertainty surrounding President Trump’s policies. While the Federal Reserve may take steps to combat a potential slowdown, the economic outlook remains uncertain, and the market is bracing for possible economic turbulence in the months ahead.
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