The confidence game

By Mike Dolan

LONDON (Reuters) - What matters in U.S. and global markets today

By Mike Dolan, Editor-At-Large, Financial Industry and Financial Markets

Wall Street stocks jumped on Monday, spurred by hopes that the White House is hesitating in its plan for sweeping "reciprocal" tariff hikes next week. The rally was also helped along by news that S&P Global's flash U.S. business survey for March showed overall corporate activity well above forecasts, calming fears about a brewing tariff-related downturn. But under the hood, the survey results were perhaps less impressive than they seemed. 

I'll discuss this below and then explore why declining U.S. private sector debt may not be such a good thing.

Today's Market Minute

* U.S. President Donald Trump said on Monday that automobile tariffs are coming soon even as he indicated that not all of his threatened levies would be imposed on April 2 and that some countries may get breaks.

* Trump on Monday issued an executive order declaring that any country buying oil or gas from Venezuela will pay a 25% tariff on trades with the U.S., while his administration extended a deadline for U.S. producer Chevron to wind down operations in the South American country.

* Atlanta Federal Reserve President Raphael Bostic said he anticipates slower progress on inflation in the coming months and thus now sees the Fed cutting its benchmark interest rate only once more by the end of this year.

* India is open to cutting tariffs on more than half of U.S. imports worth $23 billion in the first phase of a trade deal the two nations are negotiating, two government sources said.

* Top Trump administration officials mistakenly disclosed war plans in a messaging group that included a journalist shortly before the U.S. attacked Yemen's Iran-aligned Houthis, the White House said on Monday.

Reality check on household confidence

While S&P Global showed that the dominant U.S. service sector has rebounded much faster than expected, U.S. manufacturing, which is more vulnerable to tariff hikes, surprised by slipping back into contractionary territory this month.

Investors will now turn their attention to the household sector on Tuesday to see if the Conference Board's consumer confidence reading shows any sign of recovery this month from February's eight-month low.

As to the seemingly endless "will they, won't they" guessing game on tariffs, President Trump said on Monday that auto tariffs are coming soon. But he added that not all of his threatened levies will be imposed on April 2 and some countries may get breaks.

The upshot for stock markets was that the S&P 500 rose almost 2% on Monday to end at its highest point in over two weeks, led by Big Tech, including chip giant Nvidia and Elon Musk's Tesla, which enjoyed a 12% surge.

Wall Street futures slipped back in the red first thing on Tuesday. But much of this week's trading will likely be influenced by the end of the first quarter on Friday. To the extent that the recent plunge in stocks drew short sellers, there may be some degree of short covering to close out the month.

Overseas stocks were mixed, with a 2% drop in Hong Kong but a 0.5% gain for euro zone stocks, as the Ifo Institute's gauge of German business confidence climbed.

The dollar was largely subdued, falling back against the yen and yuan.     

Treasuries were influenced by the stock market moves and positive business polls, as 10-year yields hit their highest in a month early on Tuesday. 

Adding a spur to that move was a rise in crude prices to three-week highs on Trump's push for tariffs on countries buying Venezuelan crude and on comments from Atlanta Federal Reserve boss Raphael Bostic that he sees just one rate cut coming from the Fed this year.

And now I'll turn to a few reasons why the Fed may cut interest rates more than Bostic and the markets are currently expecting.

US debt reduction may become a drag, not a brag

The rude health of U.S. household and corporate balance sheets is partially responsible for the exceptional resilience of the U.S. economy in recent years - but U.S. de-leveraging may start to become a drag that could amplify recession risk.

This month's release of the Federal Reserve's quarterly statistics on U.S. financial accounts highlighted the rising asset wealth and modest debt load of households and businesses at the end of 2024.

But when you strip away the impact of the ongoing expansion of the federal government's mountainous debt pile, a potentially pernicious trend emerges - or so says Morgan Stanley's Matthew Hornbach and the firm's U.S. fixed-income team.

Slicing and dicing the data, they reckon the U.S. private sector debt load shrank by 2.4% of gross domestic product in the final three months of last year - the steepest de-leveraging of the private sector since the banking crash of 2008.

The last period of equivalent quarterly debt declines was in the second quarter of 2023 after the regional banking crisis, the team noted, but that was much more modest and reduced leverage in the financial sector accounted for the entire drop.

The drivers of the debt rundown today are all in the non-financial parts of the economy: households, non-financial businesses, and state and local governments. And that's the first time on record that all three segments reduced leverage in the same quarter.

The catalyst may have been trepidation surrounding November's U.S. election and Trump's return to the White House. But there's good reason to believe the trend has not improved much in early 2025, given subsequent developments including trade uncertainty, planned reciprocal U.S. tariff hikes and related stock market volatility.

"We suspect that the trade tensions arising after the presidential inauguration may limit any rebound – as evidenced by subdued capital market activity," Morgan Stanley told clients.

"A sustained pullback in private sector debt growth could present a challenge for the U.S. economy," it added. "At a minimum, a sustained private sector de-leveraging would not be emblematic of a normally functioning U.S. economy."

The upshot is that the Federal Reserve may be more ready to ease monetary policy than many assume and may be willing to go further than market pricing suggests, making today's elevated Treasury yields look attractive.

PUT DOWN

JPMorgan's team also believes the likelihood of further substantial Fed easing long term may be underestimated as the bank now sees the chance of a U.S. recession over the next 12 months as high as 40%.

The JPM strategists question the market's assumption of a so-called "Trump put" with a higher strike price than the long-assumed "Fed put". 

In other words, many investors thought a stock market swoon on the scale of the one seen so far this year would have caused the new administration to reverse some of its more disruptive plans. But that assumption seems wide of the mark.

JPM's analysts reckon the government is digging its heels in by signaling an inevitable "adjustment phase" for the economy and markets.

"The damage from sentiment as a result of extreme policies could trigger more Fed easing than in our baseline, especially if the U.S. labor market weakens," it added. "The path remains narrow with limited room for errors, but the strike of the Fed put could be higher than the one of the Trump put."

All this talk of backstops is one reason why the stock market seems keen to bounce as the dire first quarter comes to a close. After all, many in the market may still believe in those "puts" - and the temptation to "buy the dip" is well entrenched in market psychology. 

Two big problems remain, though. 

One is that U.S. equity and corporate debt markets are nowhere close to pricing in heightened recession risk. High-yield corporate debt spreads are still far too slim to account for any danger ahead.

The other is the chance that neither of the two mooted "puts" materialises at all.     

Chart of the day 

The University of Michigan consumer sentiment reading for March dropped to its lowest level in more than two years, suggesting that U.S. households may be anxious about the turbulent mix of trade shifts and federal job cuts alongside heightened stock market volatility. The Conference Board's equivalent survey for this month released on Tuesday could offer a reality check, with its sentiment indicator already at an eight-month low in February. 

Today's events to watch

* U.S. March consumer confidence, March Richmond Federal Reserve business survey, February U.S. new home sales, January U.S. house prices

* Federal Reserve Board Governor Adriana Kugler and New York Fed President John Williams speak

* U.S. Treasury sells $69 billion of 2-year notes 

* U.S. Secretary of State Marco Rubio to meet Turkish foreign minister Hakan Fidan in Washington

Opinions expressed are those of the author. They do not reflect the views of Reuters News, which, under the Trust Principles, is committed to integrity, independence, and freedom from bias.

(By Mike Dolan; Editing by Anna Szymanski and Ed Osmond)