Blog
Trade Wars: What Institutional Investors Need to Know
By: Ortec Finance
This latest report from Ortec Finance provides an in-depth look at the impact trade tariffs might have on financial market behavior in the short and long-term, and – crucially – the implications for institutional investors.
This is an excerpt from NCPERS Spring 2025 issue of PERSist.
Earlier this year, President Trump announced that trade tariffs will be imposed on several countries. This report from Ortec Finance provides an in-depth look at the impact these trade tariffs might have on financial market behavior in the short and long-term, and – crucially – the implications for institutional investors. Our analysis considers several scenarios, including the bigger picture of U.S. policies and growing geopolitical turmoil.
The bigger picture: an uncertain outlook
Although we focus our attention on tariffs, it is important to point out that tariffs are not the only factor affecting the current economic outlook. In order to provide a broad and all-encompassing picture, we must also consider the growing uncertainty around debt levels, the decisions of the Department of Government Efficiency (DOGE), and the Federal Reserve, coupled with countries rethinking their positions on the world stage. Shifting from an academic take on trade wars to sketching economic scenarios, we highlight four key uncertainties:
- U.S. debt levels and sovereign bond rates
- Inflationary pressure
- A Federal Reserve balancing act
- Geopolitical turmoil
What are the implications for institutional investors?
Institutional investors may have to consider both the short- and long-term implications of the effects described in this report. For example, a decrease in expectations of long-term yields will have the impact of increasing liabilities for pension funds and insurance balance sheets which can be sensitive to government yields under different valuation measures. Similarly, there may be impacts on regulatory measures, such as funding and capital management. This liability exposure of course depends on the level of hedging inherent in any investment strategy and the immediate costs of unwinding these positions, should that be necessary.
Another implication for institutional investors is the impact on liquidity, considering the implementation of tariffs and subsequent short-term market movements. As allocations to private asset classes have increased in recent years due to yield and liability/cashflow matching requirements over the full liability horizon, liquidity may be a more prominent risk in times of financial market volatility.
Insurers may also be concerned with managing policyholder behavior in case of sudden large-scale allocations to less volatile asset classes. Impacts on pension funds will be influenced by the maturity of the fund, its plans for run-off, pension risk transfer or other endgame solutions, and the extent to which the need for short-term liquidity arises.
We cannot expect to know how financial markets will behave under the Trump Administration given this range of potential paths. While there is value in thinking through such narratives, how can we know what the tail risks of an extreme scenario will be?
Scenario modeling
One way to navigate the financial markets' uncertainty is through stochastic scenario analysis. While we don't know what the impact of a second Trump term will be on financial markets, we can look at a set of possible scenarios to understand the risks facing U.S. policies in the next four years.
By aggregating thousands of scenarios together, we can view a cloud of possible outcomes, including tail risk scenarios. The graphs below represent a band of potential scenarios which capture what might happen. Interest rate risk is a key driver of total portfolio returns through their influence on bond performance and currency hedging costs. Additionally, rates indirectly impact the returns of other asset classes, such as equities, currencies, and alternatives. In a well-diversified portfolio, interest rate risk is partially mitigated through diversification across asset classes, leveraging the correlations between them. Therefore, this risk should not be analyzed in isolation, as correlations and diversification benefits with other asset classes must be considered.
The second chart illustrates the stochastic scenario-based projection of the cumulative total portfolio return over the next four years for an average U.S. public pension fund. The cloud of total portfolio returns incorporates multiple risk drivers (e.g. interest rate risk, credit risk, equity risk, and currency risk) and captures their diversification effects, showing the uncertainty around the central expectation (blue line). As such, scenario-analysis can help investors understand tail risks and the impact of policy adjustments on their strategic risk profile.
Although no one can predict what path our economic markets will follow in the wake of President Trump's policies – whether the path will be paved by U.S. government debt or an escalating trade war – we will only learn with time which scenario is realized. But we do expect that increased uncertainty will drive financial market volatility.
For more insights, we invite you to read the complete report from Ortec Finance.
Bio: Ortec Finance is the leading provider of technology and solutions for risk and return management. We model and map the relevant uncertainties to help institutional investors monitor their goals and decisions. We design, build, and deliver high-quality software models for asset-liability management, risk management, impact investment, portfolio construction, performance measurement & attribution, and financial planning.
Ortec Finance's strength lies in an effective combination of advanced models, innovative technology, and in- depth market knowledge. This combination of skills and expertise supports investment professionals in achieving a better risk-return ratio and thus better results.
Founded in the Netherlands, Ortec Finance has eight global offices in Amsterdam, Rotterdam, London, Zurich, Melbourne, Singapore, Toronto, and New York.
Comments
There have been no comments made on this article. Why not be the first and add your own comment using the form below.
Leave a comment
Please complete the form below to submit a comment on this article. A valid email address is required to submit a comment though it will not be displayed on the site.
HTML has been disabled but if you wish to add any hyperlinks or text formatting you can use any of the following codes: [B]bold text[/B], [I]italic text[/I], [U]underlined text[/U], [S]
strike through text[/S], [URL]http://www.yourlink.com[/URL], [URL=http//www.yourlink.com]your text[/URL]