Muzinich Weekly Market Comment: The confidence conundrum

May 19, 2025

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In our latest roundup of the key developments in financial markets and economies, we ask whether investors may be getting complacent on the back of more positive news flow and data.

Financial markets enjoyed another positive week, fuelled by a stream of positive headlines: ceasefires, policy reversals, deals signed and supportive economic data. Just as the positive momentum threatened to fade, another encouraging development would flash across the screens, reigniting the rally. Opportunities were scarce for bears, who came under pressure from all sides.

Government bond yields were largely unchanged, despite an early uptick driven by concerns over incoming economic data and headlines surrounding the proposed US tax bill.

Stable bond yields allowed the rally in corporate credit to continue. Credit spreads have now retraced to pre-Liberation Day levels (See ‘Chart of the Week), with high yield again leading the charge. Within that segment, emerging-market credit stood out, and has now caught up with its developed market peers after initially lagging in the early stages of the recovery.

Reflecting broader risk-on sentiment, the price of gold continued to decline, and is now down 7% from its peak earlier in the month.^[1] Bitcoin remained firmly above the psychological 100,000 level,^[2] while our preferred risk sentiment gauge, the VIX, retreated into the 15–20 range,^[3] signalling a return to more typical market conditions.

It was a relatively quiet week in currency markets. The Chinese yuan was the main mover, which appreciated to its strongest level year-to-date. This coincided with reports that US and South Korean officials had discussed currency policy during their meeting in Milan, fuelling renewed expectations of a weaker dollar. However, these expectations were later tempered by US officials, who denied that currency policy pledges were being considered as part of tariff agreements.^[4]

Meanwhile, equity markets had a big week; the Bloomberg World Large & Mid Cap Price Return Index was up over 4%, and several European bourses, including Germany, Spain, and Italy, surged to fresh highs.

Give peace a chance

Ceasefire was the word flashing across terminals early last week. India and Pakistan announced a breakthrough agreement,^[5] the PKK (Kurdistan Workers' Party) announced it will disband,^[6] and Hamas released US-Israeli hostage Edan Alexander following an understanding with the US that humanitarian aid will resume and ceasefire negotiations to end the war with Israel will begin immediately.^[7]

A meeting between Russian President Vladimir Putin and his Ukrainian counterpart Volodymyr Zelenskyy was also floated, signalling a possible pause in hostilities. While that did not materialize, Russian and Ukrainian officials did meet in Istanbul, marking the first direct talks between the two nations since early 2022.^[8] Meanwhile, US President Donald Trump stated he would meet with Russian President Vladimir Putin “as soon as we can set it up”, committing the US to diplomatic efforts at brokering peace in Ukraine.^[9]

However, perhaps the most significant driver of renewed positive sentiment and price action was the thawing of US-China trade tensions. Both sides announced substantial tariff reductions, cutting rates by 115 percentage points. The US tariff rate on Chinese goods was slashed from 145% to 30%, while China’s tariff rate on US imports dropped from 125% to 10%, bringing both countries close to pre-Liberation Day levels. Notably, 20 percentage points of the remaining 30% US tariff is tied to fentanyl-related measures, which could potentially be negotiated lower given the current momentum.^[10]

The tariff rollback is set for an initial 90-day period, during which the US and China aim to negotiate a more comprehensive trade agreement. The immediate impact of this, combined with the recently concluded deal with the UK and the US administration’s adjustment to auto tariffs, is a reduction in the average effective tariff rate from 22.5% to 14.0%.^[11]

This shift is also forecasted to reduce near-term GDP by 0.65%, an improvement from the previous estimate of 0.9%, and lower the short-term increase in consumer prices to 1.7%, down from 2.3%, assuming no policy response from the Federal Reserve.^[12] There was also positive news for the US Treasury; tariff revenues are now projected to reach US$2.7 trillion over 2026–2035, US$300 billion more than were estimated under the previously proposed 145% tariff rate on Chinese imports.^[13] This highlights initial tariff rates were far from optimal in revenue terms.

For the love of money

As for President Trump, he spent four days in the Middle East doing what comes most naturally to him — striking deals. According to the White House, the trip secured agreements worth hundreds of billions of dollars for US companies, including a major order from Qatar for Boeing passenger jets and reported artificial intelligence chip deals with Saudi Arabia and the United Arab Emirates.^[14]

His visit also included a historic meeting with Syria’s new president, Ahmed al-Shara, following which the US administration announced plans to lift sanctions, signalling a potential reset in diplomatic relations.^[15] Meanwhile, negotiations with Iran reportedly made significant progress, raising hopes for a breakthrough in nuclear talks and a pathway to lasting regional peace.^[16]

Surprise, surprise

On the economic front, the UK economy delivered a positive surprise, with Q1 showing GDP growth of 0.7% over the previous quarter, exceeding consensus expectations and the Bank of England’s projection of 0.6%.^[17] However, one swallow does not make a summer, and it is possible much of that growth was down to a frontloading of production ahead of a sharp rise in US tariffs.

Meanwhile, German investor sentiment continued to improve as fears over US tariffs have faded and optimism has grown around increased public spending under the new government. The ZEW Indicator of Economic Sentiment jumped to 25.2 in May, up sharply from -14 in the previous month, signalling renewed confidence in the economic outlook.^[18]

However, the main economic event of last week was the release of April US inflation data, providing the first meaningful look at the impact of the Liberation Day reciprocal tariff programme. To the relief of bond investors, both consumer and producer prices came in below expectations. Headline and core consumer prices rose by just 0.2% in April, below the forecasted 0.3%, bringing the year-over-year headline Consumer Price Index down to 2.3%, its lowest level since February 2021.^[19]

The inflation reports underscore two key dynamics in the economy. First, goods categories directly affected by the new tariff rates, such as autos and apparel, did not show the price increases many had feared. This suggests importers and retailers may be absorbing a portion of the added costs, and that some goods currently on the market were imported before the full impact of tariffs set in.

Supporting this view, producer prices fell unexpectedly by 0.5% in April, the largest monthly decline in five years, largely due to shrinking profit margins.^[20] This also suggests many firms are choosing to absorb tariff-related costs rather than pass them on to consumers. Second, weakness in service categories, such as travel and recreation, suggests consumers are beginning to scale back on discretionary spending.

Questions, questions

Last week has left us with two key conundrums. First, the US has demonstrated both pragmatism and a renewed openness to business and trade. Investors have clearly stepped back from the worst-case scenarios projected in early April, with negative tail risks meaningfully reduced. While US growth is still expected to slow, the deceleration now looks modest and likely to outpace Europe. This raises the question: Will recent capital flows out of the US and into Europe begin to reverse?

Secondly, with asset prices returning to more stretched levels, the bar for good news to outweigh bad has risen significantly. It is also important for investors to recognise the historically weak seasonality of the summer months and the fact that the true economic impact of recent developments will likely only become clear in July or, more realistically, August data. This raises a second key question: Is it time to play defence and start taking chips off the table?

Chart of the Week: Option-adjusted credit spreads return to April 2 levels

Source: ICE Index Platform, as of May 16, 2025. ICE BofA US Cash Pay High Yield Index (J0A0), ICE BofA Euro High Yield Index (HE00), ICE BofA High Yield US Emerging Markets Liquid Corporate Plus Index (EMHY),  ICE BofA US Corporate Index (C0A0), ICE BofA Euro Corporate Index (ER00), ICE BofA High Grade Emerging Markets Corporate Plus Index (EMIB). Indices represent best proxies for respective sub-asset classes. For illustrative purposes only.

 

References

[1] LBMA, ‘Precious metals prices,’ as of May 16, 2025
[2] Binance, ‘Bitcoin price,’ as of May 16, 2025
[3] CBOE, 'Chicago Board Options Exchange Volatility Index,' as of May 16, 2025
[4] Bloomberg, ‘US-Korea talks fuel bet Trump open to weaker dollar,’ May 14, 2025
[5] CNN, ‘How India and Pakistan agreed to an uneasy truce,’ May 12, 2025
[6] Al Jazeera, ‘Kurdish leader Ocalan told the PKK to disband, it did,’ May 13, 2025
[7] Sky News, ‘Hamas confirms direct peace talks with US - as it calls on Trump to 'pressure' Israel,’ May 16, 2025
[8] BBC News, ‘Ukraine and Russia agree prisoner-of-war exchange after first direct talks in years,’ May 17, 2025
[9] BBC News, ‘Nothing's going to happen until Putin and I get together,’ May 16, 2025
[10] The White House, ‘Joint Statement on U.S.-China Economic and Trade Meeting in Geneva,’ May 12, 2025
[11] The Budget Lab at Yale, ‘State of U.S. Tariffs: May 12, 2025
[12] Tax Foundation, ‘Trump Tariffs: Tracking the Economic Impact of the Trump Trade War,’ May 13, 2025
[13] The Budget Lab at Yale, ‘State of U.S. Tariffs: May 12, 2025
[14] The White House, ‘Trillions in Great Deals Secured for America Thanks to President Trump,’ May 16, 2025
[15] Reuters, ‘Trump meets Syrian president, urges him to establish ties with Israel,’ May 14, 2025
[16] BBC News, ‘US and Iran close to nuclear deal, Trump says,’ May 15, 2025
[17] Office for National Statistics, ‘GDP first quarterly estimate, UK: January to March 2025,’ May 15, 2025
[18] ZEW, ‘Significant Rise in the ZEW Indicator of Economic Sentiment,’ May 13, 2025
[19] US Bureau of Labor Statistics, ‘Consumer Price Index Summary,’ May 13, 2025
[20] US Bureau of Labor Statistics, ‘Producer Price Index Summary,’ May 15, 2025

 

This material is not intended to be relied upon as a forecast, research, or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed by Muzinich & Co. are as of May 19, 2025, and may change without notice. All data figures are from Bloomberg, as of May 16, 2025, unless otherwise stated.

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Index descriptions

J0A0 - The ICE BofA US Cash Pay High Yield Index tracks the performance of US dollar denominated below investment grade corporate debt, currently in a coupon paying period that is publicly issued in the US domestic market.  Qualifying securities must have a below investment grade rating (based on an average of Moody’s, S&P and Fitch), at least 18 months to final maturity at the time of issuance, at least one year remaining term to final maturity as of the rebalancing date, a fixed coupon schedule and a minimum amount outstanding of $250 million.

HE00 - The ICE BofA Euro High Yield Index tracks the performance of EUR dominated below investment grade corporate debt publicly issued in the euro domestic or eurobond markets. Qualifying securities must have a below investment grade rating (based on an average of Moody’s, S&P and Fitch), at least 18 months to final maturity at the time of issuance, at least one year remaining term to final maturity, a fixed coupon schedule and a minimum amount outstanding of EUR 250 million. 

EMHY - The ICE BofA High Yield US Emerging Markets Liquid Corporate Plus Index is a subset of The ICE BofA US Emerging Markets Liquid Corporate Plus Index including all securities rated BB1 or lower. The ICE BofA US Emerging Markets Liquid Corporate Plus Index tracks the performance of U.S. dollar denominated emerging markets non-sovereign debt publicly issued in the major domestic and eurobond markets.

C0A0 - The ICE BofA US Corporate Index tracks the performance of US dollar denominated investment grade corporate debt publicly issued in the US domestic market. Qualifying securities must have an investment grade rating (based on an average of Moody’s, S&P and Fitch), at least 18 months to final maturity at the time of issuance, at least one year remaining term to final maturity as of the rebalancing date, a fixed coupon schedule and a minimum amount outstanding of $250 million.

ER00 – The ICE BofA Euro Corporate Index tracks the performance of EUR denominated investment grade corporate debt publicly issued in the eurobond or Euro member domestic markets. Qualifying securities must have an investment grade rating (based on an average of Moody’s, S&P and Fitch), at least 18 months to final maturity at the time of issuance, at least one year remaining term to final maturity, a fixed coupon schedule and a minimum amount outstanding of EUR 250 million.

EMIB - ICE BofA High Grade Emerging Markets Corporate Plus Index is a subset of the ICE BofA ML Emerging Markets Corporate Plus Index (EMCB) including all securities rated AAA through BBB3, inclusive.

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