Market Plunges Amid Tariff Surprises

Key Market Indices

* QQQ: -0.64%
* SPY: -0.57%
* ^DJI: -0.21%
* ^GSPC: -0.61%
* ^IXIC: -0.92%

Investor Reaction to Trump's Tariffs

Investors were caught off guard by President Trump's announcement of tariffs on Canada, Mexico, and China. The market witnessed an initial sell-off, with all three major averages dropping significantly. However, losses were partially recovered after the White House confirmed delays in tariffs on Mexico.

Nasdaq and S&P 500 Fall

The tech-heavy Nasdaq Composite (^IXIC) dipped approximately 1%, while the S&P 500 (^GSPC) declined by around 0.8%.

Dow Jones Industrial Average

The Dow Jones Industrial Average (^DJI) lost 0.4%, or nearly 200 points.

Underpricing of Tariff Risk

Lori Calvasina, head of US equity strategy at RBC Capital Markets, attributed the market volatility to investors initially underestimating the risk of tariffs being more than a negotiation tool.

Trump's Tariff Stance

Despite Trump's previous announcements of 25% tariffs on Canada and Mexico, markets had not taken his statements at face value. The White House also announced plans for a 10% tariff on China.

Market Mispricing

Betting markets and economists had not fully priced in the likelihood of substantial tariffs. The Polymarket betting platform initially gave only a 20% probability of 25% tariffs on Canada and Mexico.

Dollar Surge and Sector Impacts

The US dollar surged to 109, approaching its highest level in two years. Retail and auto stocks, sectors potentially affected by tariffs, also declined.

Morgan Stanley Analysis

Morgan Stanley strategists emphasized that the full implementation of tariffs was not yet reflected in key market prices. They predicted potential pressure on US equities and outperformance of services stocks over consumer goods.

Negotiations and Uncertainty

Tariffs on all three countries are scheduled to be implemented by February 4th. However, ongoing negotiations between the US and Mexico may provide a potential pathway to avoid widespread tariffs.

Policy Uncertainty

Even if tariffs are withdrawn, JPMorgan chief US economist Michael Feroli anticipates increased policy uncertainty. This uncertainty may hinder the Federal Reserve's ability to take decisive action.

Goldman Sachs Concerns

Goldman Sachs' David Kostin expressed concerns about the "downside risk" to S&P 500 earnings posed by significant tariffs. He estimated a potential near-term decline of approximately 5% in the market's fair value if the market expects sustained implementation of the tariffs.

Investor Sentiment

The market's response to tariffs will ultimately depend on investors' beliefs about the duration of their implementation. If tariffs are perceived as a temporary step towards a settlement, the equity market impact will be more muted. However, if investors anticipate further tariff escalation, equities may suffer additional losses.