Investing.com -- RBC Capital Markets sees a rising risk of a market pullback as new US tariffs on China, Mexico, and Canada take effect.
The investment bank warns that the S&P 500 could face “at least one 5-10% drawdown” as a result of the policy decision, given that equities were already looking overbought in terms of positioning and that valuations had been slipping from extreme highs.
According to RBC, market complacency had been high, with many macro forecasters previously dismissing the likelihood of significant tariffs as a mere negotiating tactic.
RBC strategists note that most macro forecasters viewed tariffs as a negotiating tactic rather than a real threat, leading to market complacency as the S&P 500 hovered near all-time highs.
While European investors voiced concerns about tariffs in year-ahead meetings, US investors were more divided—some shared European worries, others aligned with macro forecasters, and some found the situation too uncertain to predict.
“Post-election and recent company commentary also leaves us convinced that the current iteration of tariffs presents a significant, new challenge for the C-suite to overcome, with possible adverse impacts to EPS, margins, demand, and business confidence—along with all of the positive things improved business confidence has been expected to lead to,” the strategists led by Lori Calvasina said in a report.
The firm also sees inflationary pressures as a potential risk, noting that tariffs “could eventually damage the vibes that have been expected to strengthen post-election, an assumption that has been central to bullish outlooks on the US equity market for 2025 broadly in the financial community.”
The upward pressure on inflation adds to uncertainty over Federal Reserve policy, creating another headwind for stocks. Public companies have previously made it clear they will pass tariff-related costs on to customers through price increases.
But despite these risks, RBC does not believe the situation necessarily warrants a shift from its base case forecast of 6,600 for the S&P 500 at year-end to its bear case of 5,775. However, it acknowledges that the probability of needing to do so “has admittedly increased a bit.”
The bank points to historical parallels, drawing comparisons to 2018, when the S&P 500 saw a peak-to-trough decline of more than 20% amid a trade war with China. While RBC does not expect the same magnitude of decline, it cautions that, similar to 2018, initial investor reactions have been mixed, with small caps benefiting early on but facing greater pressure as the impact of tariffs grows.
The strategists also highlight potential mitigating factors. For instance, while US C-suites appear to not have a clear game plan in place for the latest iteration of tariffs, RBC’s team believes that “they have become quite skilled at navigating challenges in recent years.”
It also notes that “these new tariffs also seem likely to be more onerous for the US’s trading partners, which seems likely to keep equity inflows to the US intact.”
Furthermore, there is a possibility that these tariffs can be short-lived, RBC added.