Amid tariff and debt risks, co-chief investment officer at Talaria Capital, Chad Padowitz, warned that current conditions have historically preceded extended economic downturns.
“The weakness we are seeing now is not unusual and suggests investors should brace for a prolonged adjustment before conditions improve,” he said.
Following the US Federal Reserve’s first rate cut since December and as discussions heat up around additional cuts, he has advised investors to consider what’s driving the pivot and how it might impact their portfolios.
“If rate cuts are driven by weakening economic momentum, financial system stress or policy intervention rather than economic strength, the broader negative implications are likely to outweigh the benefits of lower rates,” Padowitz said.
He added that even after central banks begin easing, employment deterioration typically follows with a lag. As well as this, the shift towards monetary easing seems to be a reaction to a slowdown in economic activity, rather than a significant boost in productivity.
In his speech on Wednesday AEST, Federal Reserve chair Jerome Powell acknowledged the significant “uncertainty around the path of inflation”. Padowitz too highlighted tariffs as a major challenge, noting that many companies have not yet fully transferred these increased costs to consumers.
“With consumer sentiment subdued, many firms lack the pricing power to pass on higher costs. This will squeeze margins, directly impact earnings and weigh broadly on equity markets,” he said.
Adding to this, the co-chief investment officer noted that with US equity valuations already inflated, any potential upside from lower rates “may already be priced in”, limiting the scope for further re-rating.
As Padowitz explained, from an investment perspective, consumer sectors are the most exposed to tariffs and weak consumer sentiment, while services companies and those with local manufacturing “should be better insulated”.
At the same time, Padowitz also identified the structural build-up of government debt across the globe as another “growing vulnerability”, explaining that when debt levels climb without credible fiscal discipline, it becomes a “systemic risk to financial stability”.
Global equity analyst at Talaria, Stefan Stoev, agreed, telling InvestorDaily that the asset manager views financial suppression as the only solution to such a pervasive debt landscape, which would similarly incur a period of high inflation.
As he explained, this would lead to a preference for shorter duration assets like healthcare, insurance and utility companies, as well as real assets such as gold and real estate. In addition, “defensive attributes” such as secure balance sheets would become significantly more attractive.
Meanwhile, the Nasdaq is currently soaring, largely driven by mega-cap tech stocks like Microsoft and Tesla – the latter gaining 30 per cent this month and trading at its highest level since January.
But Stoev clarified that Talaria’s current strategy involves an underweight position on all mega-cap tech stocks and artificial intelligence themes, regarding these companies as very risky.
“Mega-cap tech stocks represent a very large proportion of the index, which is an underappreciated risk. Most index investors, even if they are not aware of it, are actually very exposed to a handful of stocks,” he said.
He elaborated that these companies have long durations, meaning the cash flow derived from them extends far into the future and requires numerous factors to align favourably for that cash to be realised. Even small changes to the assumptions of cash flow in 20 or 30 years could lead to very large changes in current price.
On the other hand, he said it’s precisely some of the sectors that have faltered in recent times – such as healthcare – that offer the right characteristics for the current environment.
“Such companies today trade at a discount, and they’re exactly the types of companies that do well when there is an economic slowdown,” he said.
He pointed to vaccine producers as a group that is currently trading at low valuations despite generating substantial cash flow, following reports of health concerns in the US.
Padowitz agreed, adding that opportunities remain despite underlying pressures. He identified French energy major TotalEnergies as another example of value on offer.
“TotalEnergies shows how select European companies can deliver both resilience and long-term value in the current environment,” Padowitz said.
Going forward, he explained that the duration and severity of the rate cut cycle will indicate the likelihood of a prolonged slowdown.
“If many leading economic indicators are deteriorating rather than just a few, [these] are some of the things to gauge the extent of the likely downturn,” he told InvestorDaily.
Padowitz ultimately recommended that investors are discerning when navigating oncoming pressures.
“Investors need to be discerning. There are still areas of genuine value, but the broader backdrop, being tariffs, debt and slowing growth, demands careful navigation,” he said.
