"TACO" trading dominates, and the market completely disregards tariffs

When tariff threats are rampant, the market shows a completely misaligned phenomenon: the inflation traders who should be panicking are instead "napping," while the national assets most vulnerable to tariffs are hitting new highs... Is the market completely disregarding tariffs?

On May 28, according to news from the Chasing Wind Trading Desk, Deutsche Bank stated in its latest research report that a significant structural misalignment is occurring in the global market, highlighting investors' indifferent attitude towards the threat of tariff policies.

The report pointed out that despite the ongoing escalation of tariff threats, market performance has been contrary to expectations: since April 2, U.S. inflation swap prices have remained "unchanged," while the national assets most affected by tariffs have performed strongly. This indicates that the market has fully adapted to the new normal of the erratic tariff policies.

This phenomenon is also referred to as "TACO trading," where the market experiences a decline following new tariff threats from Trump, only to surge again with Trump's "backtracking."

The term TACO stands for "Trump Always Chickens Out." This acronym was initially proposed by Robert Armstrong, a columnist for the Financial Times. He wrote earlier this month: "The recent rebound largely stems from the market's realization that the U.S. government's tolerance for market and economic pressure is not high, and when tariffs cause pain, it will quickly retreat. This is the TACO theory: Trump always chickens out."

On Tuesday, U.S. stocks, bonds, and currencies all rose, once again showcasing "TACO trading." According to Wall Street Journal's previous mention, Trump's 48-hour reversal on a 50% tariff on Europe led to the resurgence of "TACO trading," with the market rebounding from last Friday's decline to a significant rise on Tuesday, reaffirming the so-called "TACO trading."

U.S. Inflation Swap Prices "Unchanged"

Since Trump announced the so-called "reciprocal tariffs" on April 2, U.S. inflation swap prices have hardly changed.

Deutsche Bank noted in the report that the 1-year U.S. inflation swap adjusted from 3.40% on April 2 to 3.36% last week, while the 5-year inflation swap slightly increased from 2.54% to 2.56%.

The report pointed out that this calm performance stands in stark contrast to the volume of policy announcements. Despite the continuous tariff threats and frequent policy changes, including a 90-day reciprocal tariff delay, U.S.-China tariff de-escalation, and EU tariff delays, the response from the inflation swap market has been minimal.

"However, what is even more puzzling is that several forward-looking inflation indicators have shown an upward trend since April 2. In particular, the U.S. Manufacturing Purchasing Managers' Index for May, released last week, indicated that both input and output prices are rising at the fastest pace since 2022."

Countries Most Affected by Tariff Impacts Show Surprisingly Strong Asset Performance

The report also pointed out that, surprisingly, the assets of developed economies that are most vulnerable to tariff impacts have performed relatively strongly.

The Canadian market has ignored the shadow of tariffs, with the S&P/TSX Composite Index closing at a record high on Tuesday, up 5.4% year-to-date.

Deutsche Bank stated that this performance is particularly noteworthy because the Canadian economy is highly dependent on trade with the U.S., and economic growth forecasts have been significantly downgraded.

The report noted that, in addition to the stock market, the Bloomberg Canadian Bond Aggregate Index (including government and corporate bonds) has also risen 0.3% year-to-date, and even the Canadian dollar has strengthened against the U.S. dollar, with a cumulative increase of over 4%, although this reflects more of a weak U.S. dollar rather than a strong Canadian dollar. The report stated,

Despite ongoing tariff threats and economic growth being impacted, the performance of Canadian assets is far better than expected.

Deutsche Bank indicated that Germany, as one of the most trade-dependent countries in Europe, should have suffered greatly in the trade war, yet the German market has also shown remarkable resilience.

The German DAX Index reached a record high last week, closing just 0.4% below that level on Tuesday. More notably, the German stock index has outperformed major indices such as the Stoxx 600 and the French CAC40.

Deutsche Bank believes that this performance cannot be simply attributed to fiscal stimulus responses, as the DAX Index reached new highs long after the announcement of stimulus policies and April 2, while other indices did not perform similarly