CIO commentary: Diversification trumps concentration
President Trump’s “liberation day” tariffs have ignited a global trade firestorm. Market volatility has surged, and the prospect of a deep, prolonged trade war looms large. CIO Dr Volker Flögel, CFA, provides a scenario-based analysis of potential market developments and outlines key portfolio strategies to help investors navigate this period of heightened uncertainty, recommending a diversified investment approach.
Dr. Volker Flögel, CFA
Chief Investment Officer
President Trump’s “liberation day” announcement of much higher (and broader) tariffs than originally envisaged have caught market participants by surprise. Hopes for the possibility of a negotiated solution in the short to medium term have waned leading to further market declines. Large trading partners have shifted their tones from conciliatory to resolute, or even, in the case of China, to retaliatory. Uncertainty remains high.
The possibility of such measures became clearer in 2024. Stephen Miran, current chair of the US Council of Economic Advisers, published in November 2024: “A second Trump term is likely to be even more forceful than the first when it comes to reconfiguring the international trading and financial systems. With President Trump unable to run for another term, he can focus on his legacy and achieving some of his core goals of reindustrialization, manufacturing revitalization, and improved international competitiveness.”1
Creating a positive legacy from the re-industrialisation of the US over the next four years faces the challenge that global companies have been refining their cross-border supply chains for decades. Production crosses several borders before the final sale, creating a complex global network of supplier infrastructure and skilled labour. In a recent CNN interview, Dan Ives, Global Head of Technology Research at Wedbush Securities, explained that a re-shoring of the production of an iPhone to the United States would result in a price per phone of USD 3500.2
As systematic investors with over 25 years of market experience, we remain committed to our philosophy in the face of shifting political and economic conditions. Our empirical approach to data enables us to make rational and unbiased decisions, avoiding behavioural and emotional biases in turbulent times. Our ability to evaluate large volumes of data coupled with a highly efficient automation process facilitates the simultaneous consideration of multiple investment decisions within and across large investment universes. Investors have the possibility to capture opportunities across the breadth of global markets. Our flexible investment platform can adapt your portfolio to your specific risk appetite, for example through the addition of a MinRisk allocation. As always, we are available to act as a partner in your deliberations on portfolio structure and approaches to risk mitigation.
In the following we present a scenario-based view on further developments and summarise some ideas on how to position in equities and fixed income.
Scenario 1: No deals – deep, prolonged trade war
Global trade & economics
- Announced tariffs stay in place with no agreement.
- Large trading partners retaliate, causing a spiral of escalating tariffs and trade restrictions.
- Global trade breaks down, similar to the 1930s.
Key responses
- EU: Digital services and anti-coercion measures (“bazooka”)
- China: Counter-tariffs and strong devaluation of the yuan
Economic and financial impact
- Global recession
- Lower commodity and energy prices, weak demand; labour market may tame inflation in the long term, but not quickly
- Prolonged stagflation: 1) 2% drag on US GDP, 2) Inflation in the order of 4% and higher possible
- Structural and dramatic inroads into business models, company earnings and large-scale defaults possible
- Systemic risks – financial sector: liquidity risks, even affecting Treasury securities
Impact on markets
Rates
- Initial response: central bank rate cuts to support economy
- Potential future development: continuing inflation could lead to rate hikes again
- Comparison to historical events: similar to 1970s and 1930s, but not as severe
Spreads
A significant widening can be expected, especially in Europe and China. Historical precedent suggests:
- 250-300 basis points for investment grade
- 750-900 basis points for high yield
Equities
- Lower multiples: investors require a higher risk premium, leading to further drawdowns
- Threats to value stocks (manufacturing and financials) due to recession risk as well as growth and tech stocks due to high multiples and retaliatory measures
Scenario 2: Volatility, but finally a deal – benign scenario
Global trade & economics
Partial deals struck
- After intense negotiations and back-and-forth tactics, partial deals are reached with main partners (EU, China, etc.)
- Timeline and clarity of deals are uncertain, casting doubt on the outcome
- In a benign case, there are significant achievements in the next quarters
- 2026 midterm elections and the 250th anniversary of the US could be catalysts for change, whereby some damage may be incurred
Economic impact
- Uncertainty of the situation dampens growth, with a mild-heavy recession (>50% probability)
- 1-1.5% drag on US GDP and a similar increase in inflation
- Growth in EU/China is also lower, but without inflation
- Temporary (depends on above) impact on company earnings, business models (partially) adapt
Impact on markets
Rates
- US: Aggressive rate cuts unlikely in 2025, unlike in EU and China
- Long rates: Volatile, depending on market developments
Spreads
- Investment Grade: 120-150 basis points
- High Yield: 500-600 basis points
Equities
- Profit taking on high multiples, particularly in tech
- Markets: Flat, with potential for a rise once the situation stabilises
- Temporary impact: Value and growth/tech stocks suffer, buying opportunity after price correction
- Relief rallies on good news
- New drawdowns on bad news
Investor considerations – diversification day
Under consideration of these two scenarios, our motto is: make “liberation day” into “diversification day”.
Equities
Conclusion from scenario analysis
For bad and worst-case scenarios, both large-cap growth/big tech and small-cap/value stocks would struggle, particularly those exposed to trade and financials. This scenario favours a defensive equity portfolio, such as our MinRisk strategy, which typically holds more companies with local business models than market indexes. In a benign case, a relief rally is likely, favouring higher beta stocks.
Portfolio strategy
A partial allocation to a defensive benchmark-agnostic strategy like MinRisk can diversify portfolios. Historical experience from the 1970s also suggests that diversification over the entire style spectrum, with an underweighting of expensive large-cap stocks, makes sense.
Fixed income
Conclusion from scenario analysis
For bad and worst-case scenarios, a defensive approach is warranted, particularly in the face of inflation threats. In this scenario, a lower duration strategy makes sense. On the spread side, a focus on higher-quality bonds with lower spread duration is also plausible.
In a benign case, with close to peak volatility and moderate spread widening from current levels, risk premia are relatively attractive again, favouring higher spreads.
Portfolio strategy
A defensive short-duration credit approach, such as our benchmark-agnostic Credit MinRisk strategy, can be a valuable diversifier for portfolios. This approach focuses on higher-quality bonds with lower spread and a lower interest rate duration, providing a hedge against potential market volatility.
