How I Hedged The Tariff Downturn

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“The stock market is a device for transferring money from the impatient to the patient.”

-Warren Buffett

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NEWS
What Happened Last Week

• The S&P 500 jumped 9.52% on Wednesday, marking the 9th biggest up day in stock market history (with March 1933 still holding the record).

• This resulted from President Trump pausing tariffs on recently targeted countries for 90 days, citing that more than 75 nations are seeking to negotiate with the US on trade policy.

• Inflation, as measured by the Consumer Price Index (CPI), declined -0.1% in March; however, this was mainly due to the fall in gas prices, and core CPI (excluding food and energy) rose 0.1%, still beating expectations.

• China experienced its second month of deflation in March due to the anticipated buildup of products which were originally meant for exports to the US.

• China expressed it is open to negotiations based on “mutual respect,” but has raised its tariffs on the US to 125%, matching the tariffs imposed by the US on China.

• For March, Purchasing Managers Indexes (PMI) in the US and across the developed world still indicate likely economic expansion is ahead.

• So far in 2025, the US stock market has broadened its strength beyond just the Magnificent 7 (Apple, Nvidia, Microsoft, Amazon, Tesla, Alphabet, and Meta), with 62% of the S&P 500 index outperforming the index as a whole.

• The Federal Reserve is now caught between the objective of keeping inflation low (using high interest rates) and potentially needing to fight future unemployment (using lower interest rates).

How I See It

It’s the job of stock markets to look ahead and weigh every probability based on current publicly available data.

The problem is that current available data is changing so rapidly. Neither businesses nor consumers know how to react to such quick and dramatic changes to the rules of the economic game.

Remarkably, fast changing rules are typical of the first half of a US President’s term, which often leads to volatile markets. This one has just been far more dramatic than most!

Should companies build their factories in the US when tariffs might be reduced or removed by the time they’re finished?

Would they have time to recoup the higher costs by the time that the rules have changed again?

Do consumers keep spending as usual, or do they start saving for a larger rainy day fund in case they lose their jobs as a result of cost cutting.

The problem with uncertainty is that it freezes people into indecision, or at least pauses otherwise productive decisions.

If this lasts for too long, it CAN create a recession.

I don’t believe that the tariffs alone would cause a recession.

But the constant uncertainty of whether they’re on or off, or how much they are, certainly could!

Add to that the narrowing profit margins of companies trying to compete for the lowest price hike, and recession becomes a growing probability.

The only way the sheer extent of these actions make sense to me is if there is truly a growing national security threat that needs to be dealt with right away. It’s not obvious to me that there is. But I’m not inside the Pentagon either.

Regardless, as with most fast-changing events, markets often overestimate the long-term market impact by reacting in the very short-term. Then they try to find their footing in the weeks ahead.

The 50-day moving average is just about to cross below the 200-day moving average on the S&P 500, one sign that the longer trend might be turning downward. In my opinion, downward movement in the days ahead is likelier than upside. Investors wishing to protect against a potentially longer term downturn could use this as a reasonable point to take action to hedge some risk.

A few methods of risk reduction* include:

• Cashing in on some positions

• Increasing bond-to-equity ratio

• For equity allocation, using a more equal-weighted, large-cap index portfolio for diversification

• Using an equity-linked CD

• Buying a protective put option**

• Establishing a vertical put debit spread

• Establishing an option collar

• Using a buffered ETF (typically held for ~12 months)

*This content is provided for educational purposes only and does not constitute financial, investment or legal advice. Investment decisions should be made based on each individual’s unique financial situation, goals and risk tolerance.

**Options involve significant risk and are not suitable for all investors. Before engaging in options trading, individuals should fully understand the risks involved and consider speaking with a qualified financial professional.

PARADIGM SHIFT
The Great Race of Nations

I think it’s fair to say that we’ve seen a global disruption unlike many of us have seen in our lifetimes.

The rules of the game have changed. And it’s created an international race to re-order trade with the United States.

Whichever nations are first movers stand a strong likelihood of increasing trade with the US, which theoretically means greater long-term income potential for them.

Whichever nations are last to move, or even retaliate with their own new restrictions, risk watching their trade with the US rapidly decline, potentially costing them dearly in the long-run.

It’s not simple, easy or convenient to change up supply chains. It’s not something a company does unless they have no other choice, or there’s a significant and undeniable advantage.

So once the trading players re-order themselves in this great race to move up the ranks, very likely that will be largely the way things remain for years to come.

This is a massive opportunity to smaller nations. And it’s a tremendous threat to nations that have, until present, enjoyed significant trade with the US.

I talked last week about why this was done: mainly cited in the Executive Order as a matter of strengthening national security that results from the independent ability to fully supply our own military with equipment and our citizens with basic necessities like food.

Secondarily, it's about a lofty goal to restructure the US economy so that more money flows income-tax-free internally, and less of it makes the circular round of flowing out (for imports) and flowing back to the government as a loan (when foreign nations buy Treasuries with their export profits).

With the goal of DOGE being a dramatic cut to government spending, to the point of slowing or possibly reversing the growth of national debt, there may be some logical consistency with restructuring the economy this way. Although some benefit of income tax cuts will be cancelled by higher production costs, the simple math (all else being equal) says the elimination of the federal income tax would be a net benefit to the American people IF it can be done in such a way that doesn't hurt the government’s existing deficit. But it will take massive spending cuts and economic restructuring, the “how” of which is almost unfathomable at the moment.

Back to national security.

Are the tariffs actually going to make the US more or less defensible?

De-globalization was already a growing trend. President Trump just decided to move it lightyears forward all at once.

Having mutually beneficial trading relations with countries around the world helps to maintain the peace, because we have to consider how the disruption of war would break down our mutual ability to carry on business.

Dividing those trading relations into different BLOCs, let’s say East and West, may help preserve certain cultures, economic values, social values and independence, but does it also remove soft barriers to war?

I think that’s the question no one really knows the answer to at this point. There are well-founded opinions both sides of the fence.

The market has to assess not only what this means mathematically for future GDP, but also what unforeseen risks it could cause in terms of international conflict. While the market is focused mainly on 3-30 months ahead, it also needs to consider the long-term geopolitical risks that could arise.

With economic growth already slowing down this year (even without the impact of tariffs), the perception of risk and uncertainty can cause companies to slow investing and hiring until they gain more clarity. If that happens for long enough, it can induce a recession.

I expect we continue to see big moves in the market for many weeks to come as investors grapple with the rapidly changing playing field and assess how best to price future earnings.

FINANCIAL TOOL
How I Hedged The Tariff Downturn

What a historical week for the stock market!

The S&P 500 dropped -12.14% over a stretch of six days.

Then it skyrocketed a full 9.52% in a single day on Wednesday, the ninth largest one-day upside move in recorded stock market history!

A perfect illustration of last week’s Financial Tool: the best trading days are HIGHLY likely to happen in very close proximity to the worst trading days. Those who liquidated stocks in the midst of the downturn very likely just locked in their losses.

Here’s what I did instead.

I personally manage my own assets in two main buckets: retirement (long-term) and taxable (intermediate- to short-term goals). In my retirement account, I use different strategies than I use in my taxable account, because of the difference in time horizon and goals.

In the long-term, bear markets matter far less, and capturing full upside matters much more.

In the short- and intermediate-term, bear markets are far more impactful to achieving (or not achieving) goals.

Here’s what I did for my taxable account to dramatically hedge against loss (and actually make money so far this month).

My line of logic:

• Red flags began cropping up which led me to predict a market correction coming in 2025.

• By late January, investor sentiment was so high that the red flags became too big to ignore, and I mentioned some ways to hedge downside.

• In the midst of all the positive market hype, I purchased put options to more than cover my long ETF positions. The strike price was about 5% below the current ETF value, and the time to expiration was about one year out (same concept that I teach in the course on investing).

• When markets took that fast and furious drop, I re-examined the likelihood of a coming bear market and decided the future downside is likely less dramatic than the potential future upside. I sold half the options to take profit off the table and kept them in cash.

• When markets rebounded dramatically, I reset the put options that I sold, and pocketed the profit.

As of today, I’ve made money while the S&P 500 has lost -4.4% this month.

Sound complicated? Not really. That’s why financial literacy, and investment literacy specifically, are such powerful tools. Exposure to enough knowledge and education on the subjects will make complex ideas much simpler and actionable.

While timing the market precisely is a losing game, there are tricks and strategies you can do to really rein in your risk and add a significant amount of control to how your portfolio performs over any time period that you set.

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Daniel Lancaster, CFA

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