Market Turmoil in 2025: Navigating the Investment Implications of New Tariffs

The start of the second quarter of 2025 brought significant turbulence to equity markets, largely driven by new tariff policies. For active equity investors, this period of high volatility has created both challenges and potential opportunities.

A Market on Edge: The "Liberation Day" Effect

April 2, 2025, dubbed "Liberation Day" in the US, marked the beginning of a sharp decline in equity markets. The S&P 500 fell over 10% in just two days and dropped more than 20% from its peak in mid-February. This decline impacted both developed and emerging markets as investors grew concerned about the effect of tariffs on economic growth and the rising possibility of a recession.

The market saw an unprecedented reversal on April 9, 2025, when the US Administration announced a 90-day pause on reciprocal tariffs for most countries, excluding China. In response, the S&P 500 closed the day approximately 9.5% higher. Despite this rebound, uncertainty remains about the economic impact of tariffs after the 90-day pause ends, creating a risk of further market weakness.

This Q2 volatility followed a first quarter in which the "Magnificent-7" and the broader US market had already experienced a period of underperformance after two years of strong leadership. From the market peak on February 19 to March 31, 2025, the market-cap weighted S&P 500 lagged the MSCI World ex US Index by over 10.5%.

Historical Context and Future Outlook

While unsettling, such market drawdowns are not without precedent. There have been about 10 instances since the Great Depression where the S&P 500 has dropped by more than 20%. More recent examples include the 2022 decline of about 22% and the 2020 COVID-19 crash of roughly 34%.

History shows that significant drawdowns are typically followed by a market recovery. Over the last 40-45 years, with the exception of the dot-com bubble burst, markets have generally shown a strong rebound in the five years following a 20% decline. Based on this historical pattern, investors should consider remaining fully invested to capture the benefits of any potential rebound.

S&P 500 Drawdowns and Subsequent 5-Year Returns

• February 1982: Max Drawdown: -27.1%, Subsequent 5-year return p.a.: 20.4%

• October 1987: Max Drawdown: -33.5%, Subsequent 5-year return p.a.: 13.0%

• March 2001: Max Drawdown: -49.1%, Subsequent 5-year return p.a.: 1.7%

• July 2008: Max Drawdown: -56.8%, Subsequent 5-year return p.a.: 5.8%

• March 2020: Max Drawdown: -33.9%, Subsequent 5-year return p.a.: 17.4%

• June 2022: Max Drawdown: -25.4%, Subsequent 5-year return p.a.: 12.8%

What Does This Mean for Active Managers?

The recent market shifts have created a difficult environment for active management. The introduction of tariffs has heightened uncertainty over future trading relationships and increased recessionary fears. These concerns tend to most heavily impact highly valued, long-duration stocks.

However, broad market sell-offs can also lead to dislocations between a stock's price and its fair value, creating opportunities for long-term active investors. Early reports suggest that fundamental active strategies have performed reasonably well in the days following the tariff announcements.

The consensus among investment managers is that it is still too early to understand the full impact of the tariffs. The immediate focus is on assessing portfolio exposures to the direct impact of tariffs and the potential effects of a recession. There is little evidence of managers making wholesale portfolio changes or materially reducing risk, with most remaining fully invested.

A Disciplined Path Forward

While predicting near-term market movements is nearly impossible, history suggests that large drawdowns are usually followed by recoveries. These periods of dislocation can also present opportunities for disciplined investors. Successfully navigating volatile markets requires a robust framework for constructing equity portfolios that is aligned with specific investor objectives. In times of high volatility, it is especially important to remain disciplined and stick to these pre-agreed frameworks.

Reference:

Murphy, K., & Anderson, G. (2025). Tariffs 2025 - implications for active equity investors. Mercer.

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