U.S. Equities Supported By A Solid Economy: Navigating Near-Term Risks While Capturing Long-Term Gains

The U.S. economy remains a pillar of stability for equities, despite near-term turbulence driven by trade policy uncertainty and inflationary pressures. While Q1 2025 GDP contracted by 0.2%, the baseline outlook projects a rebound to 1.4% annual growth this year, underpinned by gradual Federal Reserve rate cuts and resilient consumer and business activity. Yet investors must tread carefully: trade wars, labor market softening, and volatile inflation could test portfolios. Here's how to balance risk and opportunity.

The Economic Foundation Holds

The U.S. economy is far from fragile. Consumer spending, which accounts for 70% of GDP, grew 1.2% in Q1—its slowest post-pandemic pace—but remains supported by steady wage growth and high savings rates. Business investment, though muted at 0.7% in 2025, is set to recover as interest rates decline. Even housing, despite a projected 1.29 million starts in 2025, will stabilize after 2026 as mortgage rates ease.

Crucially, the baseline scenario assumes an average tariff rate of 14.5%—a midpoint between escalating trade wars (which could push rates to 25%) and a de-escalation (7.5%). At this midpoint, GDP growth settles at 1.8% by 2029, with corporate profits buoyed by gradual Fed easing. Equity markets, which price in expectations, are already pricing in a moderate path.

Near-Term Risks: Trade, Inflation, and Labor

The immediate threats are threefold:
1. Trade Policy Volatility: A 37% chance of Q2 GDP contraction (per June forecasts) stems from uncertainty over tariffs. A worst-case scenario—where tariffs spike to 25%—could trigger a 1.7% GDP decline in 2026 and push unemployment to 6%. Investors must monitor trade negotiations and court rulings on tariffs (e.g., IEEPA cases).
2. Inflation Lingering: Core PCE inflation rose to 3.1% in Q2, above the Fed's 2% target, complicating its path to rate cuts. Higher-than-expected inflation could delay Fed easing, keeping bond yields elevated and equity valuations under pressure.
3. Labor Market Softening: Unemployment is projected to climb to 4.6% by 2027, with job cuts accelerating in sectors like tech and retail. This will test consumer resilience, particularly in discretionary spending.

Long-Term Opportunities: Sectors to Anchor Growth

Despite near-term headwinds, equities offer compelling long-term upside in three areas:
1. Tech and Innovation: Sectors tied to intellectual property (e.g., software, biotech) are insulated from trade pressures. Business investment in IP is projected to grow 3.7% in 2026, driven by AI and healthcare advancements.
2. Consumer Staples and Healthcare: Defensive sectors will thrive as inflation and job losses shift spending toward necessities. Companies with pricing power and global supply chains (e.g., Procter & Gamble, Johnson & Johnson) are prime plays.
3. Domestic Infrastructure: Sectors like utilities and housing recovery will benefit as interest rates fall. The 10-year Treasury yield, expected to drop to 4.1% by 2027, will boost bond-sensitive stocks.

Investment Strategy: Balance, Patience, and Quality

• Diversify Strategically: Allocate 40% to defensive sectors (staples, healthcare), 30% to tech/innovation, and 30% to cyclical stocks (industrials, energy) that gain from Fed easing.
• Focus on Quality: Avoid companies overly exposed to trade (e.g., autos, semiconductors) and prioritize firms with strong balance sheets and pricing power.
• Wait for Pullbacks: The Q2 GDP advance estimate (July 30) could trigger volatility. Use dips to buy equities in resilient sectors.

Conclusion: Stay Invested, but Stay Vigilant

U.S. equities remain a viable growth vehicle, provided investors navigate trade and inflation risks. The economy's underlying strength—moderate growth, gradual Fed easing, and sector-specific tailwinds—supports long-term gains. However, near-term volatility demands discipline: avoid overexposure to trade-sensitive assets, prioritize quality, and use market dips to build positions in sectors that will thrive in a post-tariff equilibrium.

The path to equity gains is clear, but the journey will require patience—and a compass set to fundamentals, not headlines.