Tariffs will bang US stocks hardest and dim the globe’s outlook

This analysis is by Bloomberg Intelligence Chief Equity Strategist Gina Martin Adams and Equity Strategist Gillian Wolff. It appeared first on the Bloomberg Terminal.

Tariffs targeted at countries — reciprocal or regular — will likely be paid by multinational companies, dampening the outlook for US stocks most among global equities. Decades of vertical specialization make them most vulnerable to an era of protectionism. The dollar is already signaling fundamental risk as margins show signs of peaking in similar fashion to 2018’s trade war. Non-domestic companies that rely on the US market may feel a pinch from protectionism, though in 2018 they still managed to outperform.

China is in a better position to weather tariffs this time around, given rising exports to emerging markets and limited revenue exposure to the US. The Stoxx 600 may take an earnings hit of 3-7% if tariff s are imposed. Canada and Mexico’s markets are domestically oriented, which may limit the impact on economic ties.

Tariffs’ boomerang effect means US stocks may be most at risk

Trade war was tough on stocks in 2018 and is a risk to the outlook again in 2025. US stocks may suffer the biggest effects given their global supply chain integration and dominance of US imports. Notably, shares of the companies with the highest revenue exposure to the US outperformed their counterparts in the period, showing tariff s cannot be assumed to affect economies and stocks as intended. Dollar strength suggests fundamental risks are already emerging.

Global equities’ margin views may start to crumble

Companies will be expected to pay the price of tariff s targeted at US trading partners, so global operating margin estimates are likely to take a hit — and this could lead to weakness in equity prices just as it did in 2018. At that time, levies led to margin estimate weakness and a double-digit decline in global equities. Tariff s may have an even larger impact on fundamentals this time, given they are likely to be more extreme and target a broader set of goods.

US companies will not escape the higher cost. From when Trump imposed his first set of tariffs on washing machines and solar panel imports in January 2018 to when the first set of tariff s were lifted on aluminum and steel from Canada and Mexico, forward 12-month operating margin estimates fell 70 bps in aggregate, both within and outside of the US.

US-reliant firms had robust returns in first tariff era

Returns of US-reliant international stocks showed little impact from pre-pandemic levies, likely thanks to currency adjustments and minimal effects of tariffs on the US economy. During peak tariffs (January 2018-June 2019), non-US equities with the most revenue exposure outperformed counterparts by 760 bps on average. Stocks with the biggest tilt to the US — including Taiwan Semiconductors, Novo Nordisk and SAP — rose 12.8%, while less-exposed firms like BHP, Shell and Unilever increased just 5.1%.

Our groups of high and low US revenue are the largest 100 non-US, financial, or utility stocks that disclose geographic revenue, and exposure is determined by share earned from the US in 2017. The high-revenue exposure bucket tilts toward Europe and health care, and the low-exposure group leans toward Japan and materials.

Dollar may be a problem for multinationals in 2025

A strong dollar could off set some of the risk that the tariffs proposed by President-elect Donald Trump chip away at importers’ bottom line in 2025. But it may also haunt multinational stocks and stall profit trends for the index at large, considering the multinational group has been leading index earnings recovery for the last two years. Typically, dollar gains need to be severe before profits are impacted. The greenback climbed more than 25% starting in mid-2014 and about the same in2021-22, and both led to earnings recessions for the S&P 500.

The dollar gain of 10% with tariff shocks in early 2018 during the first Trump administration may have contributed to another profit wobble and subsequent near-20% plunge in equities that year. So far in its recent surge, the dollar has jumped about 8% from its September low.

Low beta markets historically hold up best when the US falters

Recent history suggests that lower-beta markets would suffer the least in the event of a US market drop. The 2022 bear market is one of the few recent instances in which rest of world equities held up better when US equities fell significantly (over 25%). During that time, the 10 lowest-beta markets fell only 8.2% on median (12.6% on average) while the 10 highest fell 21.5% (19.6% on average).

However, the beta landscape has changed over the past three years. The UK and Japan were some of the best performers in 2022 and among the lowest-beta markets leading up to the market collapse, but since have developed some of the highest betas. Similarly, Spain and Germany, among some of the worst performers and highest beta markets in 2022, now carry some of the lowest betas.