• The first half of 2025 has shown rapid market changes, with ongoing volatility expected for the remainder of the year.  
• The deep-seated fragmentation of the global order, driven by US and China policy shifts, will alter trade and capital flows, making diversification essential for investors. 
• Private assets, real estate, and emerging markets like India and Latin America offer attractive opportunities with relatively cheap valuations.  

Tariffs, trade deals, tantrums: the first six months of this year have shown us how quickly markets can move. Expect more jitters in what remains of 2025. 

More interesting for the long-term investor is the deep-seated fragmentation of the global order that will arise from today’s policy shifts. The US is pushing for reliable allies in supply chains, while China is being pressured to orientate away from supply-side stimulus toward domestic consumption. A managed decoupling between both countries in strategic sectors will push trade and capital flows along new geostrategic lines. 

This may confuse the picture for investors, who have long turned to the US as a relatively safe haven through previous bouts of volatility. Diversification into alternative regions will be paramount in this new age. 

Here are some of our top convictions for the remainder of the year: 

1. Globally diversified portfolios: Regional allocation will be more important as US assets experience heightened volatility.

2. Hard currency and local currency EM bonds: these stand to gain from a weak US dollar. Many are very cheap. Some, including Brazilian and Mexican bonds, boast attractive yields.

3. The euro and Japanese yen: these currencies should prove relatively stable and provide some of the defensive qualities lost from a turbulent dollar.

4. Emerging market (EM) equities: the rally in China is better supported by fundamentals than on previous occasions. Valuations are relatively cheap. China, India, and Latin America provide pockets of interest.

5. Gold: likely to play its traditional role as a preserver of value as the dollar depreciates.

US macro: Prepare for inflation

Effective tariff rates currently stand at around 14 per cent. This is likely to increase inflation in the US, to around 3.5 per cent this year. We believe there is a 40 per cent probability that this materialises as economic reflation, and a 40 per cent probability of stagflation (where prices rise even as growth falls). Meanwhile, foreign-produced goods will compete to find a home elsewhere as demand diminishes in the US. This should result in deflation in the rest of the world.  

Rising tariffs and volatile trade policy will also bring US growth down to around 1 per cent this year. While all-out recession is less likely if a de-escalation with China follows through, the picture remains uncertain. Were the effective tariff rate to rise to 20 per cent, recession would be back on the cards. 

All this leaves the US Federal Reserve with a difficult balance to strike. We believe tariff relaxation and persistently sticky inflation mean the Fed is unlikely to cut rates this year (contrary to market expectations). But so long as the tariff picture remains unclear, so does the outlook for monetary policy.

Given the stagflationary risks in the US, investors will now look to alternative shores for growth hedges. Most other central banks - Japan and Brazil aside - are in a cutting cycle. We anticipate the European Central Bank will maintain its quarterly cutting cadence towards a policy rate of 1.5 per cent (and potentially lower if a trade war escalates), while improving inflation data amidst a softer labour market in the UK will facilitate further cuts for the Bank of England too. 

Broadening horizons

The diverging inflationary picture is symptomatic of a deeper-set, structural rewiring of the global economy. President Trump is determined to restore manufacturing to American workers and reduce the size of the US current account deficit by way of tariffs, while striking trade deals with friendly countries. China likewise is trying to support domestic consumption and increase the size of its service economy. Over the long term, we expect to see a fragmentation of the world’s economic, technological, and security order, as both pursue more isolationist policies. 

One likely consequence of these changes is a potential rebalancing of US assets in investors’ portfolios. The US dollar is most obviously at risk, given its status as global reserve currency has fed into the twin deficits that Trump is now trying to reduce. The effectiveness of the US dollar as a hedge to equity risk is also coming under question, building on today’s dollar depreciation as foreign investors lift hedge ratios.

Diversification has always been important. Now it is imperative for portfolios that have become increasingly reliant on US assets over the past 25 years. Capital outflows and a dollar depreciation mean index weightings will look very different in the future. Those who get ahead of these structural trends may stand to benefit as portfolios rebalance. 

The euro could prove a significant beneficiary from the repatriation of flows, while newly expansive German fiscal policy signals the potential for a revival of the region. The valuation and defensive characteristics of the Japanese yen also make this currency appealing, while gold should continue to respond well to any further geopolitical ruptures. 

Emerging markets are attractive. Debt will be buoyed by dollar depreciation - some countries such as Brazil and Mexico already offer very attractive yields. EM equities look relatively cheap. The market is underpinned by Chinese stocks, which have turned a corner following AI breakthroughs in the country. 

Private assets including real estate offer further diversification potential. That’s particularly useful given their long-term investment horizon and active ownership in many strategies, providing investors with the ability to make adjustments to evolving market dynamics. Likewise, investors may find alternative opportunities in real estate, especially through higher income yielding European markets which can protect against inflation, and through the value-add of 'greening' previously unsustainable buildings.   

And there is still room in a diversified portfolio for US equities. The S&P 500 comprises many of the world’s biggest and most innovative companies, which are highly profitable and shareholder friendly. It would be unwise to bet against the US entirely; but equally it is not the only game in town. 

Fickle fiscal

Fiscal policy also supports the case for portfolio rebalancing. It is impossible to ignore the US debt burden, and the country shows no sign of stabilising its trajectory. It is running wartime-level deficits at a time when the unemployment rate is at cyclical lows. High volumes of treasury issuance paired with today’s volatility are creating a risk premium on long-term debt, as the imbalances between supply and demand become more prominent. This further erodes the appeal of US Treasuries as a safe haven and strengthens the case for diversification elsewhere. 

One such area could be German bunds. US foreign policy and the need for Germany to boost internal investment in infrastructure and defence spurred the country to initiate a fiscal U-turn earlier this year. There is still ample room for more issuance given Germany’s track record of fiscal rectitude.