A judicial battle concerning the global trade landscape is unfolding at the U.S. Supreme Court, with the tariff barriers from the Trump era on shaky ground.
According to a Citigroup report, market expectations for the Trump administration's victory in the International Emergency Economic Powers Act (IEEPA) tariff case have significantly cooled. The preliminary hearing at the Supreme Court has shown unfavorable signs, leading prediction markets to drop the government's win probability from about 40% to 27%.
If the court ultimately overturns the "reciprocal tariffs" imposed under IEEPA, it could trigger a trading frenzy, with potential short-term market reactions including: a decrease in inflation expectations, a rise in the stock market, and a strengthening of certain emerging market currencies.
1. Sudden Shift in Court's Direction, Erosion of Tariff Authority
During the first hearing of the IEEPA tariff case, the judges' preliminary comments were seen as unfavorable to the government.
● This signal quickly reflected in the prediction markets. Data shows that on the day of the hearing, the market's prediction of the government's chances of winning the case plummeted from about 40% before the meeting to around 27% by the close.
● Capital Economics analyst Thomas Mathews also confirmed this trend: “After Wednesday's oral arguments, market sentiment regarding the Supreme Court's handling of President Trump's tariffs under the International Emergency Economic Powers Act underwent a dramatic shift.”
● Despite setbacks in court, the Trump administration has not exhausted all its tools. The Citigroup report emphasizes that even if the IEEPA tariffs are ruled invalid, the government can still resort to other legal avenues to impose tariffs.
These alternatives include:
● Section 122: Allows for the imposition of a broad 15% tariff within 150 days.
● Section 338: Permits tariffs of up to 50% on countries that discriminate against U.S. businesses.
● "License Fee" Argument: Repackaging tariffs as "license fees," although this idea faced skepticism from some judges during the hearing.
2. Market Prepares for "Tariff Overturn" Scenario, Funds Eager to Move
For investors, the key question is how to trade this expectation. The Citigroup report outlines a possible market reaction blueprint by analyzing asset performance during the hearing day (when market expectations shifted sharply).
From 9:30 AM to 11:30 AM on that day, when the IEEPA win probability dropped sharply, the market performed as follows:
This market reaction aligns closely with Citigroup's "winners" analysis. Citigroup's analysis (which considered benchmark tariff rates, taxable goods ratios, the share of exports to the U.S., and export-to-GDP ratios) shows:
On a macro level, the effective U.S. tariff rate is expected to fall from 12.5% to around 9%, lower than the estimated rate of 15.3% after full implementation of the agreements reached.
3. Performance of U.S. Stocks and Crypto Markets
Despite the tariff news causing market volatility, the three major U.S. stock indices recently reached historic highs. However, behind this apparent strength lie concerning signs.
● On October 28, when the S&P 500 index climbed to a historic closing high of 6,890.89 points, it also set an unflattering record. “Since 1990, the S&P 500 has never shown such weak market breadth on an up day,” noted market analysts.
● Meanwhile, the Federal Reserve announced a 25 basis point rate cut on October 29. This marks the fifth time since 1970 that the Fed has cut rates while the S&P 500 was at a historical high.
● Following the announcement, Bitcoin rose about 1.9% within 24 hours, surpassing $103,000; Ethereum increased by about 4.8%, exceeding $3,500.
● During the stimulus plans of 2020-2021, Bitcoin surged from about $6,000 to $69,000, an increase of over 1000%. Research shows that nearly one in ten Americans used their stimulus checks to purchase cryptocurrencies at that time.
4. Inflation and Fiscal Policy: The Double-Edged Sword of Tariff Rulings
If the IEEPA tariffs are overturned, it will not only affect market sentiment but also have profound implications for the U.S. economic fundamentals.
● Inflation expectations will be the first to feel the impact. On the day of the IEEPA hearing, the one-year inflation swap yield fell by over 5 basis points, reflecting investors' rapid digestion of the expectation that inflationary pressures from tariffed goods would ease.
● In fact, the inflation swap market has long been a leading indicator of tariff impacts. As early as April, the one-year inflation swap rate surged to a two-year high of 3.07%, while the three-year rate fell to 2.42%, creating a steep "inflation hump curve," indicating market expectations of a "short-term price surge followed by mid-term economic recession" scenario.
● More critically, the fiscal impact. Capital Economics points out, "The repeal of tariffs based on IEEPA would be bad news for U.S. Treasury bonds."
● The loss of tariff revenue will raise tricky questions about the deficit. Even with alternative tariffs, the government is unlikely to fully offset this loss.
This contrasts sharply with the performance of U.S. stocks earlier this year. After Trump announced tariffs and trade policies in early April, the S&P 500 and Dow Jones Industrial Average briefly fell into correction territory, while the Nasdaq Composite even briefly entered a bear market.
5. The Butterfly Effect of Policy Uncertainty
● Investors need to remain vigilant, as the government still has other legal avenues to reimpose tariffs, meaning any market boost from tariff cancellations could be short-lived.
The potential reaction of the dollar may disappoint those hoping for a significant rebound. Capital Economics observed that the apparent discount that emerged after liberation day seems to have mostly dissipated, indicating limited room for a rebound if these tariffs are lifted.
● Additionally, U.S. stocks face additional headwinds. While tariff cancellations may bring benefits, the new uncertainty surrounding ultimate interest rate levels, combined with limited fiscal stimulus, may constrain any market uplift.
● Notably, the U.S. Treasury market is particularly sensitive to tariff rulings. Capital Economics notes that the largest movements in U.S. Treasuries occur at the long end of the yield curve, suggesting that concerns about supply-demand balance may be at least as important as the path of the federal funds rate.
This tariff game not only concerns trading opportunities but also influences the flow of global capital. As the Supreme Court's decision day approaches, market volatility may rise further, and investors need to prepare for various possibilities.
The market seems to have sensed the trading opportunities brought by the change in legal direction. On the day of the hearing, as the IEEPA win probability dropped sharply, both the Mexican peso and Brazilian real rose, the Russell 2000 small-cap index outperformed the S&P 500, and inflation expectations cooled.
Any market boost from tariff cancellations may be fleeting, as the government seeks alternative avenues, and a new trade game may begin again.
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