Three takeaways from a turbulent first half

The first six months of this year will probably go down in history as the period when the world’s economic tectonic plates shifted, setting the stage for a more balanced global order. The US – accidentally or deliberately – shed its ‘exorbitant privilege’ or ‘exorbitant burden’ as the ‘numero uno’ economy, forcing Europe and China to shoulder more of the responsibility of driving global growth. Investors felt the shift in their portfolios, with volatility spiking in April to levels typically seen during so-called ‘black swan’ events such as the COVID pandemic and the Global Financial Crisis. Fortunately, this year’s volatility spike was relatively short-lived and risk assets have since recovered their lost ground.

There are three primary takeaways for investors from the turbulent first half: 1. The “Trump put” is alive and well – hence, avoid event-driven panic sales and focus on the hard data and investor positioning; 2. China has found the US’s ‘Achilles heel’ (rare earths) – thus, chances of an all-out trade war have faded; and 3. Germany, catalysed by Trump’s belligerence, has finally found its mojo. The last two takeaways send a salient message to investors: avoid over-concentration in US assets.

“Trump put” is alive – eschew the urge to cut and run

This is easier said than done. Human beings are genetically wired to worry. However, the significant scaling back of Trump’s tariffs after US stocks, bonds and the dollar all tanked after the initial imposition of heightened tariffs confirmed one of our core theses for the year – that the “Trump put” is alive and that market discipline remains an important constraint on the Trump administration’s policies. Meanwhile, US Treasury Secretary, Scott Bessent has called for the easing of supplemental leverage ratio requirements for US commercial banks to re-incentivise banks to hold US government bonds. This should put a cap on bond yields, a key concern for investors.

Given these policy backstops, investors need to avoid panicking during any event-driven volatility that is almost inevitable under an avowedly ‘unpredictable’ policymaking set-up in Washington. They should instead focus on the economic and earnings data and, importantly, investor positioning.

Recent data has shown that the US job market, while slowing, remains healthy and disinflation is continuing despite (or is it because of?) tariffs. This raises the chance of Fed rate cuts in H2. However, with investor positioning remaining bearish, we see scope for further upside in equities.

China has found the US’s ‘Achilles heel’, reducing all-out trade war risk

Borrowing a term from the Greek mythology, China has found a chink, or a vulnerable point, in the US armour. China produces around 60% and processes around 90% of the world’s supply of rare earths, critical minerals used in everything from defence fighter aircraft and electric cars to robotics and high-end electronics. In April, it restricted the exports of several rare earths and magnets, in retaliation against US tariffs. This eventually forced the US back to the negotiating table, resulting in this week’s preliminary agreement in London. China agreed to accelerate rare earth exports in exchange for the US easing controls on chip exports and reissuing visas for students from China.

The key lesson here is that the US does not hold all the cards in its rivalry with China. For sure, Washington is accelerating steps to reduce its vulnerability by investing more in finding alternatives to the use of rare earths in critical technology. It will also leverage its alliance with Japan, which is ahead in this game given its prior dispute with China on this subject, to find alternative sources of rare earths in Australia and elsewhere. Nevertheless, these alternatives will take time to develop, leaving China with an edge for at least some years. This reduces the near-term chance of an all-out trade war.

Germany has found its mojo, helping global rebalancing

The final lesson is that Trump, by threatening to reduce US military support for Europe, has forced Germany, Europe’s largest economy, to step up to the table and assume greater leadership in shouldering more defence responsibilities and driving European growth. The new Merz-led coalition is in the process of reversing years of policy dissonance in Berlin that led to a stagnant economy and made Germany Europe’s laggard economy. Merz has pushed through constitutional reforms, easing debt restrictions, that will enable Germany to boost infrastructure and defence spending, potentially lifting its growth by 2 percentage points annually over the next decade. Defence spending in the rest of Europe could potentially rise by another percentage point annually.

Although most of the fiscal spending will only be felt from 2026 onwards, it is a tectonic shift for Europe and the world economy. With China also progressively easing fiscal policy, the extra-ordinary gap in fiscal policy support between the US and the rest of the world, which was arguably the primary driver for the so-called “US exceptionalism” in recent years, is likely to narrow in the coming years. Investors are starting to factor in this potential – narrowing the earnings estimates gap between the US and Euro area for 2026.

The US will undoubtedly remain a global leader in delivering stellar returns to investors, thanks to its inherent competitiveness, driven by innovation and productivity, and its unmatched consumer power, but its outsized gap with the rest of the world will likely narrow. As the gap narrows, funds that had left Europe and other parts of the world for the US over the past decade, following the “US exceptionalism trade” is likely to continue to return. This points to a further decline in the US dollar and gains in the EUR, JPY and even many Emerging Market currencies. This reinforces our final message – avoid over-concentration in US assets. Diversify, diversify, diversify.

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