Key Developments Across Asset Classes

Financial Markets Face Turbulence Amid Global Economic Uncertainty

The financial markets experienced heightened volatility last week as a combination of factors—ranging from new tariffs on Canada, Mexico, and China to growing concerns about a potential U.S. economic slowdown—sent shockwaves through global markets. Investors grappled with the dual pressures of economic uncertainty and shifting policy landscapes, leading to significant movements across various asset classes. Meanwhile, developments in Europe, including announcements of additional fiscal spending, exacerbated market volatility but also introduced pockets of optimism in certain sectors. This period of heightened instability underscores the interconnected nature of global markets and the delicate balance investors must strike in navigating these treacherous waters.

European Defense Stocks Surge as Geopolitical Tensions Rise

One of the most notable developments in recent weeks has been the rally in European defense stocks, driven by shifting geopolitical dynamics. President Donald Trump’s policies, including the suspension of military aid to Ukraine and calls for Europe to take greater responsibility for its own security, have had a profound impact on the global defense industry. As U.S. support for Ukraine wanes, European nations are increasingly committing to ramping up their defense spending, spurred by concerns over national security and the reliability of American guarantees. This shift has created a surge in demand for European defense companies, with firms such as Rheinmetall AG, BAE Systems PLC, and Thales SA benefiting from government commitments to bolster military capabilities.

The outperformance of European defense sector ETFs relative to their U.S. counterparts highlights this trend. The Select STOXX Europe Aerospace and Defense ETF has surged 27.5% over the past month, while the iShares U.S. Aerospace & Defense ETF has declined 4.6%. This divergence reflects not only the growing demand for European-made military equipment and technology but also the broader geopolitical realignment taking place as European nations seek to enhance their independence from the United States. As tensions persist and defense spending continues to rise, this sector is likely to remain a focal point for investors seeking exposure to geopolitical trends.

Investors Shift Focus to Defensive Sectors Amid Economic Slowdown

As signs of a U.S. economic slowdown continue to mount, investors are increasingly gravitating toward defensive sectors in anticipation of a potential downturn. Consumer confidence is slipping, retail sales are weakening, and the housing market is stagnating, all of which point to a cautious outlook for the U.S. economy. In response, investors are rotating out of cyclical sectors and into more stable, defensive areas such as consumer staples.

The shift from consumer discretionary stocks to consumer staples reflects a broader change in consumer behavior. As economic uncertainty grows, households are prioritizing essential goods over discretionary purchases, leading to stronger performance from companies like Walmart, Costco, and Procter & Gamble. The Consumer Staples Select Sector SPDR Fund has outperformed its discretionary counterpart, rising 4.3% over the past month, while the Consumer Discretionary Select Sector SPDR Fund fell 10.6%. This pattern highlights the importance of sectors that cater to basic needs during periods of economic volatility, as investors seek stability and reliability in their portfolios.

European Bond Yields Spike Amid Fiscal Spending Plans

European bond markets have experienced significant upheaval in recent weeks, driven by announcements of increased fiscal spending across the continent. Germany, in particular, has made headlines with its plans to implement a €500 billion fund aimed at boosting defense and infrastructure spending. This initiative, championed by Friedrich Merz, signals a dramatic shift in Germany’s traditionally conservative fiscal policies and reflects the broader push by European nations to address aging infrastructure and enhance military capabilities in response to global tensions and U.S. disengagement.

The prospect of increased government spending and subsequent bond issuance has pushed European bond yields higher, with the German 10-year bond yield rising 0.45% since the beginning of March. This surge has led to underperformance in European bonds compared to other developed debt markets. The Vanguard Total International Bond ETF (BNDX), which has a 56% allocation to European bonds, has returned -1.8% over the past month, while the iShares 7-10 Year Treasury Bond ETF (IEF) has gained 1.0% on weaker U.S. economic data and safer-haven demand. As European nations ramp up spending, bond investors will need to closely monitor the implications for debt markets and the broader macroeconomic environment.

Investors Pivot to Dividend Payers Amid Volatility

The combination of market volatility and economic uncertainty has led to a notable shift in investor preferences, with dividend-paying stocks gaining favor over momentum-driven investments. Over the past month, the Schwab U.S. Dividend Equity ETF (SCHD) has gained 2.6%, while the iShares MSCI USA Momentum Factor ETF has declined 9.6%. This divergence underscores the growing preference for stability and income generation in a climate of heightened risk.

The rotation out of momentum stocks reflects a broader risk-off sentiment among investors, who are increasingly prioritizing companies with strong fundamentals and consistent dividend payouts. This shift is further compounded by concerns over slowing economic growth, particularly in light of the Trump administration’s policies aimed at reducing the fiscal deficit and restoring domestic manufacturing through protectionist measures. As Treasury Secretary Scott Bessent acknowledged, this approach may lead to a “natural adjustment” as the economy transitions from public to private spending. For investors, this environment underscores the appeal of dividend payers as a safer, more defensive option in uncertain times.

International Stocks Gain Favor as U.S. Exceptionalism Wanes

Finally, international stocks have emerged as a bright spot in an otherwise challenging market landscape, as investors increasingly look beyond the United States for growth opportunities. The narrative of U.S. exceptionalism, which has driven domestic equities higher over the past two years, appears to be losing momentum amid signs of a potential U.S. slowdown. At the same time, Europe and other regions are stepping up fiscal stimulus efforts, creating a more favorable environment for non-U.S. equities.

The Vanguard Total International Stock ETF (VXUS) has risen 3.4% over the past month, outperforming the Vanguard Total Stock Market ETF (VTI), which has declined 5.8%. This shift is further supported by a weaker U.S. dollar, which enhances returns for American investors holding foreign assets. Chinese equities, in particular, have delivered strong performance so far this year, adding to the appeal of international markets. As geopolitical developments unfold and economic momentum shifts, investors are increasingly recognizing the potential of diversifying their portfolios beyond U.S. borders.