An eerie calm has descended over markets. Despite the ongoing geopolitical uncertainty that has been playing out over the last few weeks, with the grim escalation of war between Israel and Iran, and then the US even entering the fray before a fragile truce took hold this week — investors have refused to panic.
Economic data paints a similarly bleak picture. Last week, the World Bank slashed its prediction for global growth to 2.3%, and US growth to 1.4%. It warned that if Trump’s so-called “Liberation Day” tariffs resumed when the 90-day pause ended on Tuesday, 8 July 2025, global trade could seize up in the second half of the year. Meanwhile, the Federal Reserve also sharply downgraded its US growth projection and raised its inflation forecast. Stagflation, the toxic combination of economic stagnation with stubborn inflation, is increasingly a possibility.
And yet investors have not blinked. Since the tariff announcement in early April, equity markets have rallied. The S&P 500 has surged 24% from its April lows and now hovers near record highs. And while 10-year US Treasury yields have climbed nearly a full percentage point since last autumn to 4.4% (bond yields move inversely to prices), they too have stabilised — despite constant worries over deteriorating US fiscal projections. As this column predicted would happen in April, markets have climbed a “wall of worry”.
Three factors may explain this apparent calm. First is the built-in assumption that Trump’s bark is worse than his bite, and that in the end he “chickens out”. This has been dubbed the “Taco” trade, or Trump always chickens out. Here, his negotiating style is seen as deliberately extreme, designed to shock with such unthinkable opening gambits that opponents subsequently accept a moderated offer largely more favourable to the US but within the realms of economic and political sanity. This pattern has played out on tariffs and even with his measured military moves against Iran, where targeted initial strikes were followed by aggressive rhetoric on regime change. Then, after Iran’s retaliation was brushed off as “very weak”, he proudly announced “CEASEFIRE” and the end of the “12 Day War”. Investors are gambling that these threats won’t escalate into actual policy disasters.
Risks
Of course, this assumption carries risks. One day Trump may decide to prove his critics wrong and follow through. Or these dangerous gambits could spiral into unintended conflict, such as happened in the brief but alarming US-China trade war. Investors are clearly betting that the Taco trade holds when it comes to Trump “implementing” the so-called “reciprocal” tariffs on 8 July. He will have to rapidly announce some sort of face-saving compromise in the next few weeks as there are still glaringly few signs of his “90 deals in 90 days”.
The second factor is that as with everything regarding the market, it is a question of timing. While wars in the Middle East, higher oil prices, looming tariffs and a slowing global economy are theoretically not great for markets, for the moment corporate earnings remain strong, especially those of the mega cap tech stocks underpinning the markets. Any potential downside seems to be rather distant, and until then investors want to participate. As long as companies continue to deliver, investors fear missing out on gains more than they fear the potential downside. Even the Bank for International Settlements, which warned last week of uncertainty from tariffs dragging on investment and output, predicts that the most significant impact will hit in 2026 — not this year.
Finally, markets tend not to notice the accumulative effects of myriad threats until something bad enough happens to trigger a collective meltdown. The last two great bear markets of the last three decades — the Covid pandemic and the financial crisis sparked by the collapse of Lehman Brothers in 2008 — followed periods when markets brushed off multiple warning signs. It often takes a “black swan” event to shatter this complacency.
Catalyst
And if that happens, the catalyst is more likely to come from the US economy than the Middle East. While tariffs and oil prices are clear risks, much of current economic data suggests surprising resilience: the labour market remains solid, inflation is moderating, and corporate results are still strong. But if unemployment starts rising materially, inflation jumps up or if economic weakness spreads to the financial system and triggers tighter credit, the calm could break quickly. Seasoned traders are already seeing cracks starting to show in equities.
The US dollar, which baffled many by weakening in the first quarter despite tariff threats, has resumed its role as a safe haven, rising since Israel’s strike on Iran. Where it goes over the next few months will be critical in determining whether it really continues to be the world’s safe haven. Perhaps even more important will be the US bond market, which could well be where the first landmines start exploding. This column has previously warned of the dangers lurking in the US debt market. Rapidly rising US bond yields, such as what happened in April, would once again trigger panic.
Emerging markets, such as South Africa, are already feeling the strain. South African equities have sold off from their recent all-time high, and while the rand has strengthened against the greenback since early April, it is now trading sideways.
Investors should remain extremely cautious. Despite the global economy supposedly looking resilient in the face of geopolitical carnage, it will not take much for markets to take fright. This is particularly true of emerging markets like South Africa. While recent months have allowed savvy investors to claw back earlier losses, that window of opportunity may be closing. Now is not the time for complacency — but for caution. DM
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