An avalanche of news has rolled on top of financial markets the past few weeks—from big on-off-on-off tariff threats and U.S. economic indicators quickly shifting from sturdy to quite wobbly, to changes in the Federal Reserve’s thinking, and also noteworthy foreign policy moves.
Following are answers to the most common questions we’re getting from clients, with the aim of bringing some clarity to this unique investment environment.
Is stagflation on the table, and what about a recession?
A number of Q1 economic indicators have weakened and we think U.S. GDP growth for the quarter will fall short of the current 2.1 percent consensus forecast—potentially well short—when the preliminary data is reported on April 30.
At this stage, we can’t rule out that the anemic trends could spill into Q2.
RBC Economics recently lowered its full-year 2025 U.S. GDP growth forecast to 1.6 percent from 2.0 percent. And just yesterday, the Fed downgraded its forecast to 1.7 percent from 2.1 percent.
The Fed even hinted at rising stagflation risks.
For those old enough to remember the full-blown, extreme stagflation of the 1970s—a period of prolonged economic malaise coupled with very high inflation—that’s not what the Fed is alluding to. But the U.S. central bank does see the potential for GDP growth to slow this year to a below-average, subpar rate and for inflation to rise somewhat higher due to tariff risks.
We think tariff fears have indeed weighed on some Q1 economic indicators, especially those tied to consumer, business, and investor sentiment, and there are signs this is prompting a pullback in spending overall.
But some of the weakness also may be due to the normal ebb and flow of the business cycle.
As our colleague Tom Garretson points out, this economic expansion has lasted for 58 months, which is just shy of the 60-month long-term average since 1933. The business cycle could simply be maturing and slowing down like it has many times before, and this process may have accelerated due to Washington policy uncertainties.
While a recession is not our base-case forecast for this year, nor is it that of RBC’s economists, we’re monitoring important recession indicators and other relevant economic data closely.
How much longer is the tariff roller coaster ride going to last?
Regarding tariffs, our bottom line is: The higher the tariffs and the longer they last, the greater the negative impact on GDP.
When all is said and done, RBC Global Asset Management Inc. Chief Economist Eric Lascelles still thinks we’re more likely to end up with tariffs raised moderately, and some of the large tariffs that are introduced will be removed or reduced after trade deals are negotiated.
Of course, getting from here to there could continue to be challenging for markets.
But there are early signs that U.S. President Donald Trump’s economic team—including those who spent many years in very senior positions on Wall Street—heard the market’s message of the past few weeks to at least dial down the drama and roll out tariffs in a more orderly way.
It seems like U.S. Trade Representative Jamieson Greer will play a bigger role in coordinating the rollout of reciprocal tariffs in April, and that there will be a formal process for businesses and other key stakeholders to provide feedback before they are implemented.
Negotiations with some trading partners are already taking place, and this will continue with some of it covered in the press, and a lot of it probably behind the scenes. The process needs to play out.
We expect to see more tariff-related volatility for markets this year, at least. Lessons from the U.S.-China trade tussle in Trump’s first term are useful to consider.
What are the downside risks and upside potential for the U.S. stock market?
Given the economic vulnerabilities, RBC Capital Markets, LLC’s Head of U.S. Equity Strategy Lori Calvasina recently lowered her year-end S&P 500 price target to 6,200 from 6,600. This translates into almost 9.3 percent upside from the 5,675 closing level on March 19. This price target incorporates RBC Economics’ 2025 GDP growth forecast of 1.6 percent.
It’s important to keep in mind what price targets are and what they are not.
Calvasina describes her process as “a compass, not a GPS” and elaborates that her price target is “a signaling mechanism designed to reflect our general view of where stocks are headed.” She considers five models and a wide range of economic and other data to determine her price target. We view this as a rigorous, well-thought-out process.
Importantly, she would revise the target “if/when new information relevant to our forecast becomes available …”
Calvasina also lowered her 2025 S&P 500 earnings forecast to $264 per share, well below the $271 per share Bloomberg consensus forecast of Wall Street industry analysts. We think the latter will end up coming down in the months ahead.
In terms of downside risk to the market, Calvasina’s “bear case” for the S&P 500 is 5,550 at year end, slightly lower than the market’s current level. This scenario incorporates more lackluster GDP growth of 0.1 percent to 1.0 percent for full-year 2025. And with this “bear case,” we’re mindful the S&P 500 could push lower than 5,550 before finishing around there at year end.
Given that the S&P 500 has declined 7.6 percent from its all-time high reached in mid-February through March 19, we think it’s also useful to monitor contrarian indicators like the American Association of Individual Investors (AAII) survey, which attempts to measure investor sentiment.
The proportion of bulls has plunged to very low levels in the AAII survey, and the proportion of bears has surged to very high levels. Historically, this has signaled that the market could bounce, at least over a course of months.
When AAII bullish and bearish sentiment levels in the past were as extreme as they are currently, the S&P 500 has risen around 10 percent on average nine months later. This is close to the upside potential incorporated in Calvasina’s 6,200 price target for the S&P 500.
What’s the most prudent way to position equity portfolios at a time of so much uncertainty?
In our view, portfolios should stay committed to equities up to but not beyond the long-term strategic allocation level. In other words, we wouldn’t hold Overweight exposure to equities at this stage. Up to a Market Weight allocation seems more appropriate to us given the downside risks and upside potential.
We think it’s prudent to hold a high proportion of quality stocks. These are stocks of companies led by strong management teams who have weathered business cycle shifts before and who have demonstrated effectiveness at managing expenses during periods of economic uncertainties, while also taking advantage of opportunities that may arise.
Within this category, we favor dividend growers and steady earnings growers, specifically “growth at a reasonable price” or “GARP” stocks.