President Trump's Tariffs Could Sink the Stock Market, but Investors Have Another Serious Problem

The U.S. stock market has been unusually turbulent this year. The S&P 500 (^GSPC -0.05%) dropped 10.5% in two days when President Trump announced his “Liberation Day” tariffs in early April, its fifth worst two-day decline in history. The index ultimately fell 19% from its record high as economists warned of catastrophic consequences.

However, the S&P 500 rebounded quickly after the president paused the most severe tariffs for 90 days, and kept climbing as companies reported better than expected earnings and economic data remained positive. The S&P 500 has advanced 30% since crashing in April.

Unfortunately, jobs data that initially suggested economic resilience was recently revised down, showing the situation is much bleaker than it first appeared. In addition, investors have another alarming problem: The S&P 500 currently trades at a very expensive valuation.

Jobs growth has slowed dramatically as tariffs have sown uncertainty

The Bureau of Labor Statistics (BLS) surveys 121,000 businesses each month to get data about employment and earnings. The nonfarm payrolls report is particularly important because it measures the number of paid workers (excluding farm employees), providing insight into the strength of the U.S. economy.

The BLS initially estimated the U.S. economy added a total of 286,000 jobs in May and June, but later slashed its projection to 33,000. President Trump without evidence claimed the numbers had been manipulated to make him and the Republicans look bad. He fired BLS Commissioner Erika McEntarfer, setting a dangerous precedent that several economists warned could erode confidence in future economic data.

The most recent nonfarm payrolls report brought worse news. The U.S. economy added an average of 27,000 jobs each month between May and August, a dramatic slowdown from 123,000 jobs per month between January and April. Excluding the COVID pandemic, hiring has not been so sluggish since 2010 when the U.S. was still recovering from the Great Recession.

Here’s the bottom line: President Trump says the economy is booming thanks to his tariffs, but weak jobs growth says otherwise. Businesses are hesitant to hire employees because everchanging trade policies have created an environment of uncertainty. That threatens the economy because it ultimately means businesses are growing more slowly and consumers have less money to spend. And anything that threatens the economy could sink the stock market.

The S&P 500 trades at a historically expensive valuation

Beyond tariffs, Investors have another serious problem. The S&P 500 currently trades at 22.1 times forward earnings, a premium to the five-year average of 19.9 time forward earnings and the 10-year average of 18.5 time forward earnings.

Valuations that high are exceedingly rare. In fact, apart from the present situation, the S&P 500 has only achieved a forward price-to-earnings multiple above 22 during two periods in history: the dot-com bubble in the late 1990s and the Covid-19 pandemic in the early 2020s. The stock market eventually crashed both times.

Alternatively, the S&P 500 currently has a cyclically adjusted price-to-earnings (CAPE) ratio of 37.9, above the five-year average of 33.4 and the 10-year average of 31.3. That valuation metric — which averages inflation-adjusted earnings from the previous decade to account for natural fluctuations in the business cycle — shows we are closing in on the second priciest stock market in history. That is particularly worrisome because it’s happening in tandem with tariff-induced weakness in the jobs market.

Here’s the bottom line: Investors should be cautious in the current market environment. It’s easy to get carried away with the S&P 500 racing through record highs, but most Wall Street analysts see little upside in the index in the remaining months of 2025 and history says the current valuation is unsustainable over long periods. Sooner or later, something will break the bullish sentiment carrying the market today and stocks will decline, perhaps substantially.