Q3 Macro Outlook: Less chaos, and hopefully a bit more clarity

Chart: EURUSD versus US 10-year Treasury-German Bund yield spread. In recent history, the EURUSD exchange rate largely tracked the difference in the yields between the longer-term debt of the two blocs, as expressed in this chart in the spread between the yields on  a US 10-year Treasury note and the German 10-year bund. This year has seen a remarkable divergence – first when Germany announced a massive fiscal expansion that saw German and European yields spike higher relative to global peers. Fiscal expansion is usually currency positive. The subsequent surge in the Euro relative to the US dollar is less easy to attribute to anything going on in Europe and more likely to do with concerns that Trump trade barriers and US treasury policy will mean that capital recycled back into US markets will not be rewarded with strong returns.

Iran-Israel conflict: does this fade or escalate?
This outlook is being written amid renewed hostilities between Israel and Iran, as Israel seeks to block Iran’s nuclear ambitions. The impact on oil markets has been dramatic, raising fears of a new inflation wave. But impacts from geopolitical tensions are very difficult for market participants to anticipate or process. As for central banks that have their hands on the policy levers that can more directly move markets, they are likely to look through any energy-driven price spikes if sentiment and growth prospects deteriorate, maintaining a dovish stance despite an energy price-inspired inflation surge, if that’s what we get.

US recession risks
Recession risks are likely set to rise in the second half, partly due to a post-tariff slowdown after the pre-tariff rush in Q1 and early Q2, and as leading indicators point to incoming weakness. The Federal Reserve’s prolonged high policy rate, relative to inflation, adds to the pressure, with the housing market showing signs of severe deterioration. Our base case is for a mild recession in the second half, before inflationary growth picks up early next year ahead of the mid-term US elections.

Further downside this year in the growth outlook comes from tariffs, which act like a tax in terms of their first order effects. When you raise the price of something in the economy, there isn’t suddenly more money to buy it; rather, participants in the economy either buy less of that item or less of something else, resulting in a real growth decline. Trump’s anti-immigration policies may have a surprisingly large impact as well, as ICE raids and pressure tactics are scaring some workers without legal status underground and some may even be self-deporting. There’s little hard data on this thus far, only anecdotes, but at the margin there will be a consumption and labor supply impact for select industries that employ the most workers without legal status, including in agriculture, construction and hospitality industries.

A wildcard for the US and global economy is whether AI disruption could trigger the first true white-collar recession, as jobs requiring higher cognitive skills across industries are replaced by highly productive AI tools. Again, anecdotes abound, but perhaps in Q3 or soon thereafter we’ll get some real data on the impact of AI.

Anticipated market outcomes:

USD to remain weak. Precious metals to remain strong.
Trump 2.0 policy is anti-globalist, a policy that economist Russell Napier calls “national capitalism” and what others might dub a “reverse mercantilism” as the US tries to unwind the global order it built since WWII. That global order was great for building the world economy and ensuring cheap prices for American consumers. A strong dollar has been at the heart of the order as mercantilist powers suppressed their currencies to build export-driven economies, hollowing out US manufacturing and making the US unacceptably prone to supply chain disruptions, a matter of national defense. Despite Trump’s transactional style and erection of trade barriers, the US dollar will remain the most important currency, but it will be less important than before.

Other major economic players will recycle less of their capital into the US economy and US equities and US treasuries and have to rebalance their savings and consumption domestically. Europe is already showing strong signs of doing so, prompted by the suddenly shaky US commitment to the transatlantic alliance and Trump’s posturing on the terms of trade. Germany’s dramatic new fiscal expansion has already given the euro a strong boost, and EURUSD could be bound for 1.25 by year-end. Japan is proving slow to strike a deal with the Trump administration, as noted above possibly held up by the domestic political situation in Japan. But the very weak Japanese yen is a flashing red light for the US-Japan trade relationship that is likely set for course correction (a much stronger yen).

Precious metals power commodities sector to robust H1 performance, more gains ahead
The commodities sector is on track for a strong first half with the Bloomberg Commodities Index trading up around 9% at the time of writing, thereby comfortably outperforming other US dollar-denominated assets, including bonds and equities, with both the S&P 500 and Nasdaq lagging well behind. While commodities typically rally during periods of robust economic growth, the current upswing is largely driven by geopolitical risks and investment demand for tangible hard assets—particularly for precious metals.

Gold has led the charge for months, with silver and platinum recently joining the rally amid a potent mix of rising fiscal debt concerns, tariff-driven supply shocks, a softening labour market, and continued US dollar weakness—developments that may eventually prompt a dovish, and potentially stronger-than-expected, policy shift by the Federal Reserve. Adding to this is the risk of higher inflation and central banks extending their gold-buying spree into a fourth consecutive year; the groundwork for a push toward USD 4,000 within the next twelve months is, in our opinion, within reach.

Silver’s recent break above USD 35 may signal higher prices ahead, also on a relative basis to gold where accelerated central bank demand for gold since 2022 has left silver trailing on a relative basis as seen through the gold-silver ratio trading closer to 95 than its five-year average near 80.

Chart: Gold prices and gold-silver ratio.
Besides the reordering of the geoeconomic landscape there is the humdrum risk to the US dollar from Fed policy, as a higher US recession risk means greater risk of more Fed easing than the market currently anticipates, also USD negative.

Equities outlook
For US equities, multiple paths are possible, but in general, the unwinding of US exceptionalism and a rebalancing away from the overallocation to US equities (peaked at over 70% of the MSCI world index early this year) will likely mean an underperformance relative to global peers for perhaps years to come. Nearer term, if the Fed cuts rates aggressively, equities could rally strongly, as we saw in late 2007 before the severity of the incoming global financial crisis became clearer. In addition, the belief that the US can’t afford its endless large US fiscal deficits and a bleeding default via inflation is the only way to reduce the real burden of the national debt supports the TINA (There Is No Alternative) trade for US stocks. Nonetheless, if recession hits, expect a drop in corporate profits and renewed volatility.

For global equities, again, the unwind of US exceptionalism in portfolio allocations should continue to support global markets ex-US in relative terms. As well, a weaker USD is often a particular boost for emerging markets. In Europe, Germany’s fiscal expansion is a long-term positive, though the slow rollout of corporate tax cuts (merely from 30% to 25%, and only starting in 2028) has been disappointing.

The biggest risks to the outlook are chiefly geopolitical. If Iran feels existentially threatened by Israel’s attacks and lashes out in a way we don’t anticipate, triggering a profound spike in global energy prices, global growth could come in for a hard landing. In this scenario, the US comes out on top due to its general self-reliance in energy. Otherwise, if the relationship between the US and China deteriorates badly once again for whatever reason, markets could come in for a negative shock.