During Donald Trump's first four years as president, the S&P 500 (^GSPC +0.58%) soared 67%. Over the next four years with Joe Biden in the White House, the vaunted index jumped 56%. So far in Trump's second term, the S&P 500 is off to a good start, rising 2% in that very short time frame.
However, whether the good times keep rolling could depend in large part on the trade policies of the second Trump administration. Will President Trump's tariffs cause the S&P 500 to plunge?
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President Trump's favorite word
Before his inauguration on Jan. 20, 2025, Trump said "To me, the most beautiful word in the dictionary is 'tariff.' " After his inauguration, he set out to show just how much he liked this word.
Many investors were pleasantly surprised that Trump didn't impose steep tariffs -- taxes on imported goods that are paid by the importer -- on his first day back in the Oval Office, as he had pledged to do during the presidential campaign. However, he did issue a memorandum soon after being sworn in directing the Secretary of Commerce to recommend ways to address trade imbalances with other countries and recommend actions to take, including "a global supplemental tariff." The memorandum also instructed the Treasury Secretary to look into establishing an "External Revenue Service (ERS) to collect tariffs, duties, and other foreign trade-related revenues."
Less than two weeks later, Trump declared that he was imposing 25% tariffs on products imported from Canada and Mexico with 10% tariffs on imports from China. Energy resources imported from Canada were to have a tariff rate of 10%. The stock market sank on the first trading day following this announcement. The White House quickly reversed course and delayed the tariffs on imports from Canada and Mexico for one month after talking with the leaders of both countries. However, the Chinese tariffs went into effect.
On Feb. 9, the president announced the implementation of new 25% tariffs on all steel and aluminum imported to the U.S. Four days later, he signed a memorandum authorizing reciprocal tariffs to match the tariffs imposed by all other countries on U.S. goods.
It remains to be seen if Trump will move forward on his campaign promise to enact universal tariffs of up to 20% on all imports to the U.S. He also threatened as a candidate to impose tariffs of 60% on all Chinese imports.
What one top Wall Street analyst thinks
Investors have been jittery about how tariffs might impact stocks. Are those concerns warranted? One leading Wall Street analyst who recently evaluated the potential effects of Trump's tariffs was Goldman Sachs chief U.S. equity strategist David Kostin, who estimated that S&P 500 earnings per share (EPS) would be reduced by around 1% to 2% for every 5% increase in the overall U.S. tariff rate. Kostin wrote in a research report that the delayed tariffs on Canadian and Mexican imports to the U.S. would likely reduce the S&P 500's EPS by 2% to 3%.
Why would tariffs hurt corporate earnings? Kostin explained that companies deciding to absorb the higher costs would have lower profit margins. Those passing along the higher costs to customers could see lower sales (which would trickle down to the bottom line). In addition, tariffs could cause the U.S. dollar to become stronger. This could especially impact S&P 500 companies because of their significant revenue generated outside the U.S.
Generally speaking, stock prices follow earnings. Based on Goldman Sachs' analysis, the S&P 500 could decline as a result of tariffs. However, the Wall Street investment bank doesn't predict the stock market will plunge. Goldman Sachs' models project the S&P 500 "could decline by 5% in [the] near term should sustained U.S. tariffs like those recently discussed take place."
The uncertainty factor
There is more to the story, though. The uncertainty created by the imposition of tariffs could have a greater impact than the earnings effects of those tariffs.
For example, Goldman Sachs noted in its research report, "During Trump's last presidency, the S&P 500 fell by a cumulative total of 5% on days when the U.S. announced tariffs in 2018 and 2019." Investors also should consider the impact of tariffs other countries impose because of higher U.S. tariffs. Goldman Sachs found that the S&P 500 fell by "a total of 7% on days when other countries announced retaliatory tariffs."
Some economists worry that tariffs could cause inflation to re-surge. This could impact the Federal Reserve's decisions on interest rates. As we've seen in recent weeks, the S&P 500 is highly sensitive to expectations of what interest rates will be.
Added to all of these variables is the fact that the stock market is priced at a premium. The S&P 500 Shiller CAPE ratio, a widely followed valuation metric, is near its second-highest level ever. The only times this ratio was higher were in late 2022 and late 1999/early 2000. In both cases, the S&P 500 plunged soon afterward.
The reality is that no one knows exactly what impact tariffs will have on the S&P 500, not even the best analysts on Wall Street. However, one thing is certain: Investors who took a long-term view weathered temporary storms and made money. It's a good bet they will do so again regardless of how much the president's tariffs affect the stock market.
