Trade Truce Optimism: Capitalizing on Reduced Recession Risk in US Equities

The U.S.-China trade truce has reignited optimism in equity markets, with Goldman Sachs revising its 12-month recession probability to 35%, down from 45% earlier this year. This shift, driven by a 90-day tariff suspension and moderated trade tensions, signals a pivotal moment for investors to pivot toward cyclical sectors poised to benefit from easing financial conditions. However, lingering risks—from potential tariff renegotiations to inflation—demand a nuanced strategy. Here’s how to position your portfolio for this new phase.

The Recession Risk Reduction: A Catalyst for Cyclical Plays

Goldman’s revised outlook reflects reduced tailwinds from trade wars, with U.S. GDP growth upgraded to 1% for 2025 (from 0.5%). The tariff suspension has alleviated pressure on sectors like industrials and materials, which were previously hamstrung by supply chain disruptions and elevated input costs.

This data underscores a turning point: investors can now rotate from defensive plays (e.g., utilities, healthcare) to cyclical sectors with strong leverage to economic recovery.

Sector Rotation: Targeting Industrials and Materials

The trade truce has created a sweet spot for industrials, which stand to benefit from inventory restocking cycles and infrastructure spending. Companies like Caterpillar (CAT) and Deere (DE)—exposed to construction and agriculture—are prime picks, as reduced tariff volatility eases cost pressures.

While industrials lagged staples in early 2025, their outperformance in Q2 aligns with Goldman’s call for a style rotation toward economically sensitive sectors.

Materials stocks, including chemicals (Dow Inc. (DOW)) and metals (Freeport-McMoRan (FCX)), also shine as global manufacturing demand stabilizes. However, investors should prioritize companies with exposure to domestic supply chains or tariff exemptions to hedge against future trade shocks.

The Fed’s Role: Rate Cuts Fueling the Rotation

The Federal Reserve is now expected to begin rate cuts in December 2025, with cumulative reductions of 200 basis points if a recession materializes. This pivot lowers the cost of capital, favoring cyclical sectors with high debt loads or capital expenditure needs.

The Fed’s dovish stance contrasts sharply with its 2023 tightening cycle, creating a tailwind for equities. Cyclical sectors, which typically outperform in low-rate environments, are now primed to capture this momentum.

Caution: Lingering Risks Demand Vigilance

While the trade truce is bullish, risks persist:
1. Tariff Renegotiations: China’s retaliatory tariffs (up to 145% on U.S. goods) could resurface.
2. Inflation Persistence: Goldman’s core PCE forecast of 3.5% for 2025 leaves room for Fed policy missteps.
3. Geopolitical Volatility: The Vatican’s leadership transition and ESG investing shifts may disrupt global sentiment.

This data highlights the fragility of trade truces—investors must monitor tariff trends closely.

Actionable Recommendations

1. Overweight Industrials and Materials: Target ETFs like SPDR S&P Materials (XLB) and iShares U.S. Industrials (IYK).
2. Underweight Energy and Financials: Avoid sectors like Energy (XLE), which face structural headwinds from oversupply and rate sensitivity.
3. Hedge with Tariff-Resilient Stocks: Focus on firms with diversified supply chains (e.g., 3M (MMM)) or those benefiting from reshoring incentives (e.g., Rockwell Automation (ROK)).
4. Monitor the Fed: Position for rate cuts by overweighting rate-sensitive sectors like real estate (XLK) or tech (XLK).

Conclusion

The trade truce has slashed recession fears, creating a golden window to rotate into cyclical sectors. While risks remain, the combination of Fed easing and moderated trade tensions offers a compelling setup for growth. Investors who act now—by tilting toward industrials, materials, and tariff-resilient stocks—can capitalize on this shift. But stay nimble: the next round of trade negotiations could redefine the landscape.