23 April 2025
Dear Fintax Investor
As of April 2025, global markets are navigating a volatile landscape shaped by escalating tensions in the unseen financial battle between the United States and China, a dynamic outlined in my letter earlier this month using renowned hedge fund manager Ray Dalio’s Principles for Dealing with the Changing World Order as a framework. This framework, which emphasises the cyclical rise and fall of empires driven by economic, political, and social forces, provides a lens to interpret this contest. The first quarter of 2025 has seen global equities waver. Meanwhile, bond markets are under pressure, with U.S. 10-year Treasury yields hovering around 4.5% amid persistent inflation and debt concerns.
The U.S.-China financial battle is not fought with tanks but with tariffs, debt, and currency maneuvers. The “Big Cycle” theory highlights how rising powers (China) challenge established ones (U.S.), often leading to economic and geopolitical friction. In April, President Trump’s reinstated 145% tariffs on Chinese goods, alongside exemptions for consumer electronics, have disrupted trade flows, contributing to a sharp decline in the S&P 500 post-tariff announcements. China’s retaliatory restrictions on rare earth exports have tightened global supply chains, impacting tech and renewable energy sectors. This tit-for-tat echoes how great power rivalries intensify during the “decline” phase of a dominant empire, with the U.S. grappling to maintain its financial hegemony.
Four determinants—growth, inflation, risk premiums, and discount rates—are critical here. U.S. debt, projected to hit 130% of GDP by 2028, risks a bond market crisis, potentially destabilising the dollar’s reserve status. China, holding $3 trillion in U.S. debt, could weaponise its position, though its own economic challenges, including property market woes, limit aggressive moves. Meanwhile, China’s yuan appreciation, remains a contentious issue, with markets pricing in a possible 10% shift against the dollar. This currency tug-of-war underscores the point: debt cycles and money printing (U.S. stimulus post-COVID) fuel inflation, eroding real returns and elevating risk premiums.
Equities in export-heavy markets like Germany and South Korea face headwinds from trade disruptions, while gold and commodities have gained in 2025 as inflation hedges. Opportunities within export heavy-markets, however, remain for astute active investors who can take advantage of the prevailing negative investor sentiment. Investing in companies deriving their earnings from multiple currency sources also assists diversification away from the U.S. dollar.
Morningstar are allocating to undervalued sectors, selective opportunities in emerging markets, and considering higher allocations to inflation-linked bonds to mitigate risks from this financial chess game.
The unseen U.S.-China battle may not erupt into military conflict, but is reshaping market valuations, demanding vigilance and adaptability from investors.
History offers valuable perspective: since 1928, global equity markets have weathered significant intra-year declines, averaging 14% peak-to-trough, yet consistently recovered, delivering 7–9% annualised returns over the long term. Active managers, like Morningstar, can capitalise on these opportunities, reinforcing the wisdom of staying the course.
As at the time of writing, the U.S. equity market (S&P500 Index) experienced a sharp rally yesterday (+2.51%), with futures for today’s market opening also pricing higher (+2.10%).