US: Capital war risks emerge. Even as the market frets over the flip flops on Trump’s tariffs, we think investors should increasingly focus on the prospect of capital war. From our perspective, tariffs are here to stay. The need to shift manufacturing back to the US, gain revenues, protect key industries, and help in negotiations mean that Trump has a strong incentive to keep tariffs in place. In any case, even if the Supreme Court does not rule in Trump’s favour, tariffs would still be implemented, though it would not be via the International Emergency Powers Act (IEEPA). News on this front should largely be treated as noise.
Investors would likely keep an eye on Section 899, a provision in Trump’s spending bill that is now making its way through the Senate. This provision allows the Treasury to impose up to 20% in extra taxes on dividends and interests earned by investors from countries which are deemed to have tax tariffs that are “discriminatory” or “extraterritorial” to US companies. This development appears aimed at the services sector which certain countries (especially in the Eurozone) are imposing or considering taxes on some of the US tech giants. For now, US Treasuries are exempt from this provision. There are a few considerations from a rates angle at this point.
First, the trade war is likely to widen out into a services war and now, the prospect of a capital war is gaining traction. Second, at the very least, foreigners (at least those who are perceived to be less friendly to the US) would likely face more urgency to divest private sector USD assets. Further diversification away from US capital markets appears likely. Third, even if a similar rule is not considered for USTs at this point, investors will likely have the worry in mind.
To put things into perspective, foreigners hold about USD17tn in US equities and about USD13tn in US bonds (including Treasuries). Insofar as foreign investors are overweight on USD assets, recent developments add to decoupling worries which can be disorderly if large amounts of capital shift in a very short time.
The US ISM Manufacturing PMI declined to 48.5 in May 2025 from 48.7 in April, falling short of consensus estimate of 49.5. This marks the third straight month of contraction and the steepest drop since Nov 2024, underscoring rising economic uncertainty and persistent cost pressures, fuelled in part by Trump-era trade volatility.
Also, the stagflation tone of the ISM Services PMI aligned with the Fed’s Beige Book findings. The Fed reported that the US economy contracted slightly since the previous report on 23 Apr due to tariff-related uncertainty holding back business and consumer activities. The Fed’s 12 districts witnessed lower labour demand, declining hours worked and overtime, hiring pauses, and staff reduction plans. Although prices rose moderately, a few districts expected the higher tariff rates to add significant pressure to costs and prices in the future. Although May was also the first time since Jun 2024 that both the ISM services and manufacturing PMIs contracted, the Fed lacked the disinflation scenario that led to the rate cut in Sep 2024.
Figure 1: Foreign portfolio holdings of US securities by broad security type
Source: US Department of Treasury, DBS
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