Market Thoughts: There’s a riot going on...

There’s a Riot Goin’ On was released by Sly and the Family Stone as a rejoinder to Marvin Gaye’s What’s Going On. I originally planned to title this note “Dance to the Music.” Given recent events, I thought that would be in particularly bad taste.

A quick remark about what’s unfolding in the Middle East. I’m surprised—as of this writing—how ‘well-behaved’ markets remain. Further escalation may provoke a more forceful selloff. In the event markets riot, my inclination would be to lean into risk assets. Obviously, path dependent on how and why we get there. We’re watching this closely.

There’s a great deal to be said about the U.S. economy’s resilience. Part of that strength comes down to a soft but stable labor market. Also, consumers that are marginally pulling back on spending. Muddling through, for the moment.

Two things I’m watching? Employment and the steepness of the U.S. Government bond curve. Term structure helps corroborate inflation expectations and the economic outlook. Interest rates have an obvious impact on growth, as the cost of credit increases. Hopefully, something recognized by Congress as budget talks continue.

Hope springs eternal for additional rate cuts. I continue to believe the Fed is charitably on hold at least until the fall. The data drives the Fed. I expect monetary policy to be reactive to the data. The Fed has no incentive to be proactive currently.

While the upcoming Fed policy meeting will be a non-event as it relates to any changes to rates, the FOMC will revise their Summary of Economic Projections. I expect we’ll see revisions lower to growth this year. Also, revisions higher to unemployment, inflation and policy rates (the dot plot).

The Fed’s focus is on employment. A marked deterioration in the labor market would signal the risk of recession is on the rise. Unfortunately, policymakers tend to delay action until they see growth contract to ease. The risk of stagflation remains greater than recession.

A forceful cry to cut policy rates from the White House isn’t helping. If anything, it tilts the Fed towards holding the line longer on interest rates. The Fed needs to send a strong message to markets that they remain independent, not politically badgered to bend.

When isn’t the U.S. consumer shopping? When layoffs unfurl. We’re not there yet. I will point out, expect to see payrolls growth in decline. Part driven by immigration and deportations. Part an aging population. Also, a steady decline in birthrates.

We’ve seen a pullback in job openings and a slowdown in hiring. No alarm bells. It allows consumers to stay on the path they’ve been on. Spending, with waning exuberance. Behavior inevitably sours in line with labor markets.

U.S. employment data in May was solid; the unemployment rate came in at 4.2%. The labor market impact of tariffs has been far less negative than markets expected. I’d say the same about May inflation data, with headline inflation at 2.4% year-over-year. Benign.

Economic data is lending support to risk assets. We’ve only seen modest signs of tariff pressure across sectors like electronics and autos. Also, apparel. Part of the better than feared impact reflects inventory ‘hoarding’ ahead of the tariff ramp up. It’s created a bit of breathing space for businesses.

Corporations don’t want to ‘pick a fight’ with Washington. With hard data steady, and inventories stocked, they can hold on until they see where tariffs ultimately land. I’d say the same about layoffs. They’re circling. To date, the private sector is leaning into less hiring, not aggressive firing.

We’re unlikely to see high-spirited Fed easing because of tariff taunts and tantrums. The same’s the case for the big, beautiful budget bill being batted around Congress. I expect Washington will land on 10-15% import tariffs. That’s what we continue to model.

At that level, businesses and consumers will adjust to a step down in margins and step up in the cost of goods purchased. A meeting of the minds, somewhere in the middle. Don’t call it inflation. It’s a tax hike that will gradually weigh on growth. A slow bleed, so to speak. Boiling a frog.

If labor markets remain steady, the economy will get through this. That explains the bounce we’re seeing in markets. Left tail risk is abating. In twelve months, we may find ourselves in a place where U.S. growth somehow manages to surprise to the upside.

I’d put a 10% chance of stronger-than-trend growth over the next year. Sub-trend growth remains our base case at 45%. I’d place a 25% chance of recession and 20% for trend like growth. It’s why we haven’t gone underweight equity markets and remain overweight credit. Cautiously constructive. Unfortunately, that balanced outlook can be derailed by the next policy announcement or headline.

The path ahead depends on landing tariffs and the budget swiftly. Then, how Washington pivots towards deregulation. If you’ve enjoyed Act-1, stay tuned. The current Act is about anchoring to expand power. The second Act needs a plot twist. How best to inspire economic voracity and growth?

In the space of a few days we lost two creative spirits, with profound impact and influence on each of us. Whether recognized or not. Sly Stone and Brian Wilson. Blessed by their depth and breadth of talent. Forever grateful for their inspiration, energy, provocation, passion. Dance to the music…

*Unless explicitly stated otherwise, all data is sourced from Bloomberg, Finance LP, as of 6/13/25.