Tariffs in Limbo: Investor Risks and Opportunities

Analyst Weekly, September 1, 2025

Tariffs in Limbo

The US Court of Appeals just clipped US’s tariff wings. On Friday, the Federal Circuit ruled that the president can’t use emergency powers (IEEPA) to impose tariffs, saying the law doesn’t actually give him that authority. The court let the tariffs stay in place until October 14 so the administration can appeal to the Supreme Court. The administration will likely appeal to the Supreme Court and seek a stay, which would keep tariffs in place until the case is decided. If a stay is denied, tariffs would immediately stop being collected, effectively delivering fiscal stimulus.

Why it matters: Nearly 90% of Trump’s tariffs were enacted under IEEPA, covering more than $300B in goods. While tariffs on autos, steel, aluminum, and copper (under Section 232) aren’t touched, this decision still strikes at the core of Trump’s trade playbook.

Investor angle:

The real kicker isn’t whether tariffs stick long-term: the White House has a Plan B to reimpose them through other channels.
The near-term drama is whether existing tariffs will need to be refunded. If the Supreme Court rules against the administration, about $100B in rebates could flow back to companies.
Layer that on top of the Fed’s rate cuts, $150B in consumer aid, and new business tax incentives and you’ve got a fresh dose of fiscal stimulus hitting the economy.
Companies most levered to China, Brazil, India, Switzerland, and Vietnam would see the biggest relief rally if tariffs are struck down.
Tariffs currently lower US deficits by about $4 trillion over the next decade, per the CBO. If tariffs are struck down, deficits rise, which could push bond yields higher. Treasuries may sell off on deficit concerns, even if equities rally on tariff relief.
Investors shouldn’t assume tariff relief is permanent. But if rebates are forced through, it could hand corporate America an unexpected windfall just as monetary and fiscal policy are already easing. That cocktail would boost growth and could keep markets humming.

Low Correlations Boost Stock-Picking Potential But Mind the Mean Reversion Risk

With the S&P 500 trading at record highs, rolling 90-day correlations among its constituents remain near historically low levels (see below). For investors, this usually creates an environment where diversification benefits are strongest as individual stocks are less likely to move in tandem, allowing portfolios to spread risk more effectively.

For active managers, this backdrop is particularly constructive. When company-specific fundamentals drive returns rather than macro factors, stock pickers have more scope to generate alpha. In contrast, during high-correlation regimes, stock selection tends to matter less since “everything moves together.”

But history suggests this calm rarely persists. Correlations are mean-reverting, and extended periods of low correlation, and higher dispersion that comes with it, have often been followed by sharp spikes, typically triggered by stress events such as Fed policy shifts, geopolitical shocks, or earnings disappointments. The challenge is that correlations are not stable: they spike quickly in selloffs, reducing diversification benefits at the very moment investors need them most.

The implication for investors is twofold. Today, low correlations support diversification and reward selective positioning. But looking ahead, history cautions against extrapolating current conditions into stressed markets.

Data as of September 1, 2025. Source: Bloomberg.

When Bonds Push Back: Washington’s Real Check on Power

The bond market is where Washington’s economic choices get stress-tested. When Treasury yields rise, the ripple effects impact key cornerstones of the economy, namely mortgages, credit cards, and business loans all get more expensive, whilst equity valuations, particularly in rate-sensitive sectors, come under pressure. For everyday investors, that makes bond market moves just as consequential as stock earnings.

The recent headlines surrounding the dismissal of Fed Governor Lisa Cook are really about testing presidential power over the central bank. Yet, we think the bond market holds the real leverage. If investors lose confidence that the Fed will defend price stability, or if fiscal deficits balloon despite tariffs, the bond market can punish Washington with higher yields. That move effectively constrains the White House, as more expensive borrowing makes fiscal expansion harder to sustain, as higher yields can derail growth by tightening financial conditions.

We saw a similar episode of ‘hard pressure’ before. In 2020-2021, disclosures of hawkish Fed officials’ trades led several governors to resign just as inflation risks were building. That contributed to the Fed staying looser for longer, and inflation surged to its highest in decades. Markets then forced the Fed into aggressive tightening. The lesson is simple: political maneuvering can tilt policy in the short run, but if bond investors push back, policy has to change.

Small Caps Are Particularly Rate-Sensitive

Small caps have received little attention in recent years but could be on the verge of a comeback, especially if the chances of further rate cuts increase. While the S&P 500 has gained 60.2% over the past three years, the Russell 2000 has lagged behind with an increase of just 25.2%. Since its April low, the index has been moving in a stable upward trend without major setbacks and is now approaching its record high. That record high stands at 2,471 points and is currently only 4 to 5% away. Key support levels are at 2,326 and 2,251 points, with the latter aligning with the 50-day moving average.

Russell 2000 in the daily chart. Source: eToro

Weakness In The US Labor Market Likely To Persist

Markets are firmly expecting a Fed rate cut in September, with the probability estimated at around 86%. What remains uncertain is the path beyond that. Whether the next cut comes in October or not until December is still unclear, it’s more of a coin toss. The main reason behind the expected easing is the weakening labor market.

The next data update is scheduled for Friday at 2:30 p.m. In August, only 78,000 jobs are expected to have been created. Weakness has already persisted for some time. In July, expectations were missed by 37,000 jobs, and figures for May and June were revised down by a combined 258,000. The unemployment rate is expected to have risen from 4.2% to 4.3%.

The ISM Manufacturing PMI (data due Tuesday) has been below the 50 mark since March. For August, an increase from 48.0 to 48.6 is forecast. The longer the index stays below 50 and the deeper it falls, the greater the risk of recession. The ISM Services PMI (data due Thursday) is expected to remain above 50, with a slight increase from 50.1 to 50.5 projected.

Investors want to know whether this is merely a temporary weakness in the economic data or something more significant. The larger the deviation from the expected values, the stronger the market reaction could be. The labor market report is a look in the rearview mirror, while the PMI data serve as important leading indicators.