April 2025 was an eventful month for the markets. Stock prices oscillated widely as investors reacted to the Trump administration’s on-and-off import tariff measures. After a 6.3 per cent gain in the previous month (March 2025), the markets entered April 2025 on an optimistic note, which was soon shattered following US President Trump’s announcement of reciprocal tariffs on April 2. Indian markets fell 7 per cent in five days but soon sharply bounced back, recouped all the losses in less than a week, and closed the month with a 3.4 per cent gain.
The reciprocal tariffs precipitated a minor bloodshed on global financial markets. The measures distressed the markets as they were larger than anticipated. 27 per cent reciprocal tariffs were imposed on US imports from India. Few Asian countries were slapped with more severe reciprocal tariffs, such as Vietnam at 46 per cent, China at 34 per cent, and Taiwan at 32 per cent.
China retaliated against the reciprocal tariffs the next day by imposing a 34 per cent tariff on all imports from the US, indicating things were to worsen before they get better. Later, both countries raised the tariffs steeply, worsening the trade tensions. The US Federal Reserve Chair, Jerome Powell, warned of higher prices and weaker economic growth due to the newly introduced tariffs.
The Donald Trump administration later issued a 90-day extension to reciprocal tariffs on all countries, except China. Nevertheless, the new US government’s belligerent trade and tariff policy is the dominant theme influencing global financial markets. The administration remains intransigent despite being informed that these measures pose major risks to the US economy. People in highest authority with volatile and pugnacious personalities, their parochial attitude toward economic matters with global consequences; these are the major risks the global economy and financial markets face today.
Amidst these global challenges, the outlook for Indian stocks remains dismal. The dismal outlook is further exacerbated by domestic challenges such as the elevated valuation of Indian stocks despite the market correction of the past six months and weak corporate earnings of the last two quarters.
Although the markets gained 10 per cent over the past two months, it is still unclear whether it was a relief rally or the start of a new uptrend. The 10 per cent gain of the past two months comes on the back of a 15 per cent decline in the previous five months. Despite the last two months’ gain, Nifty50 is still 7.4 per cent below its September 2024 peak.
The current valuation of major Indian stock indices is at a significant discount to their 10-year moving averages. However, it is misleading to consider markets as undervalued because they trade at a discount to their 10-year moving averages. The prevailing 10-year moving averages were fostered during the low interest rates that prevailed globally after the 2008 global financial crisis. The low rates lasted until 2022, from where rates began to rise due to an inflation bout during 2021-22.
Interest rates today are much higher than the extremely low rates of the 2010s and are expected to stay so for an extended period. Interest rates and market valuation have an inverse relationship: as interest rates decline, market valuation tends upwards; as interest rates increase, market valuation tends downwards. If so, the 10-year moving average price-earnings ratio of major Indian market indices, which have been trending upwards since 2009, is expected to trend downwards. In other words, instead of the current market valuation trending upwards towards its 10-year average valuation, it is most likely that the 10-year average valuation might trend downwards towards the current market valuation.
The US Fed took a cautious step by keeping policy rates steady in its latest meeting (7 May 2025) because of the risks of higher inflation and lower growth posed by the new tariff measures. The decision contrasts with other major central banks, some of which have reduced rates several times over the last year.
As the US interest rate remains steady, while interest rates in other advanced countries decline, the US interest-bearing assets become more attractive, causing capital to flow into the US from other markets. This doesn’t augur well for financial assets in other countries, particularly emerging countries like India.
The European Central Bank (ECB) and the Bank of Canada have made the steepest rate cuts over the past year. ECB reduced its key interest rate by 210 basis points to 2.40 from 4.50 per cent a year ago; Bank of Canada reduced its policy interest rate by 225 basis points over the last year.
Meanwhile, policy interest rates in US and UK were reduced by 100 basis points each; Swiss central bank reduced interest rates by 125 basis points over the last year; Central banks of China, India, Australia, and South Korea reduced their policy interest rates by 35 basis points, 50 basis points, 25 basis points, and 75 basis points, respectively.
The Japanese central bank (Bank of Japan) was the only major central bank to raise interest rates over the last year; the policy interest rate was increased by 40 basis points from 0.1 to 0.5 per cent. BOJ made its last rate increase in January 2025; it kept rates unchanged in the next two subsequent meetings held in March and May 2025.
As you can see, policy interest rates in Canada, the European Union, and Switzerland were reduced much faster than in the US. In contrast, the decline in policy interest rates in India and a few other emerging markets was less than in the US, UK, and the EU. Therefore, capital flight from India to advanced countries due to a change in interest rates is less likely under the current scenario.
However, the change in 10-year yields is more consequential in determining capital flow than policy interest rates. Switzerland, South Korea, and India saw their 10-year bond yields decline over the last year; the US, Canada, Australia, Germany, and France were volatile but have remained mostly unchanged; in the UK and Japan, yields have climbed. On a 10-year yield terms, India’s relative attractiveness has diminished.
The obstinate long-term yields despite declining short-term yields in advanced countries indicate higher future interest rates in these countries. In India and a few other countries where long-term yields have declined alongside short-term yields, lower interest rates are anticipated in the future. Such a scenario would be challenging for Indian markets, as capital always flows towards better risk-adjusted yields.
Higher long-term yields in advanced countries seem to indicate high inflation risk brought on by the reciprocal tariffs. In less than two weeks of imposing the tariffs, President Donald Trump paused the tariffs on all countries, except China, because of the market turmoil they unleashed. But the pause was temporary, only for 90 days.
The US tariffs on Chinese goods were also brought down from 125 per cent to 10 per cent on May 12, 2025; China too cut its retaliatory levies on US goods to 10% from 125%. But these reductions, too, are temporary; they would last for 90 days while talks continue for a permanent solution.
Markets will be subjected to heightened uncertainty until a permanent solution to the tariff crisis emerges. The uncertainty will cause decision paralysis among policymakers and investors, leading to volatile asset prices.
Most equity markets have fully recovered from their April 2025 lows. Global markets rallied on the news of the US-China temporary tariff halt deal. However, a better indicator of its significance would be the reaction of long-term bond yields to these developments. It would take at least two weeks for this development to get fully reflected in the long-term bond yields.
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