Rope-a-dope redux; fiscal largess and bonds

Rope-a-dope’s a tactic deployed when a boxer leans into a ring’s ropes taking punches, hoping to exhaust their opponent. It’s notably celebrated in the Muhammad Ali vs. George Foreman “Rumble in the Jungle” world championship boxing match.

Since April, Wall Street’s been channeling its inner Ali in the face of a constant barrage of tariff gut punches. With a first round budget victory, the bond market is now weighing in on a fiscal package that might increase the deficit by as much as $3-5 trillion over the next decade, depending on the forecast.

It’s early rounds in the budget fight. I’d argue the backup we’ve seen in longer dated U.S. government bond yields reflects rising concern the U.S. debt load’s moving higher, and by extension the cost of issuing more debt. It isn’t yet signaling investor alarm.

It’s impressive how equity and credit markets continue to play rope-a-dope with the bond market. Government bond markets are the world heavyweight champion in any bout with risk assets. That’s worth keeping in mind. The bond market always wins. Eventually.

CEIC Data, a consultancy, shows U.S. government debt/GDP at 124% as of December 2024. The record high was 130% during the pandemic. As of the latest available, Japan clocked in at 216%. Across Europe: Germany weighed in at 62%. The U.K. at 101%. Spain 104%. France 111%. Italy 135%. Greece 158%. You get the picture. All big numbers on the rise, along with longer dated bond yields.

Fiscal profligacy is weighing on long duration government bonds across developed economies. This round’s selloff championed by Japan. Investors pulled back bids at recent 20- and 40-year Japanese Government Bond (JGB) auctions. The back end of the JGB curve rioted.

While that backup caught traders’ attention, a decline in Japanese institutional buying is weighing on long duration bonds across the board. The U.S. has managed to avoid any real pain. I attribute that more to a “wait and see” stance from investors as the U.S. budget advances through Congress.

Should the Japanese bond market remain pressured, developed markets will be taken along for the ride. JGBs are menacing market stability. The Bank of Japan and the Japanese Ministry of Finance are keenly aware of this. They should pull back on longer-dated bond auctions and if necessary, intervene.

The Bank of Japan holds around half of all outstanding JGBs. Foreign investors are estimated by the Japanese Ministry of Finance to hold about 12%. Foreign investors may soon be keen to lean into longer duration JGBs. On a dollar hedged basis 30-year JGBs yield around 7% as of this writing.

The ECB meets on June 5th. I expect we’ll see a 25bps rate cut, to 2%. They will update macroeconomic forecasts at that meeting. Markets expect inflation and growth targets to be revised down. Should 2026 core inflation forecasts move below 2%, I’d pencil in another rate cut in July. We’ll see.

ECB hawks are calling for a pause after the June meeting. I’d argue growth’s the greater concern for policymakers. A stronger euro complicates the growth outlook further. As a base case, I expect Europe can circumvent recession this year. Germany’s a coin toss. Where we land with tariffs is as well. The ECB remains macro-data and tariff dependent.

One quick thought on the U.S. Court of International Trade’s ruling that blocks Washington’s unilateral 10% tariff floor and higher reciprocal duties… if it holds up under appeal, it’s a pause. The White House will need to pivot in how they’re enacted. Tariffs may ultimately prove less damaging. That’s potential good news. The bad news? Tariff negotiations will be protracted and far more insistent. Uncertainty continues to swirl.

Animal spirits have been feeding on earnings, in particular tied to big tech. The S&P 500 posted Q1 earnings and revenue growth of about 12% and 5%, respectively. Tech exceptionalism again on the rise. Buy the dip vindicated again.

Investors need to await second quarter earnings. We have about six weeks to go. Mark your calendar. At that point we may begin to see tariffs creep into earnings data. Analysts are revising down their forecasts for 2025 and 2026. Hopefully, to again be ‘surprised’ to the upside. It’s funny how that works. We continue to pencil in +6-8% S&P 500 earnings growth this year.

Heading into what looks like a ‘long hot summer’ for markets, investors are catalyst constrained. I expect that means another rope-a-dope round or two for risk assets. It feels like we’ve already gone a full twelve rounds. I recognize there’s little satisfying in that observation. Rope-a-dope redux…

Unless explicitly stated otherwise, all data is sourced from Bloomberg, Finance LP, as of 5/29/25.