The new tariff deal between the European Union and the United States introduces a 15% base tariff on most EU exports such as cars, semiconductors, and pharmaceuticals. In return, the EU has agreed to purchase $750 billion worth of U.S. energy and military equipment.
While some European leaders appreciate the stability the deal brings, there are concerns about its alignment with the “America First” trade agenda. The final terms are still being negotiated, with key details yet to be finalised.
Market Responses
In the stock market, the major European indices showed varied responses. The German DAX had the largest decline with a drop of 1.13%. France’s CAC and the UK’s FTSE 100 both fell by 0.43%, while Spain’s Ibex decreased by 0.12%. Italy’s FTSE MIB closed without change.
We believe the market’s muted and negative response signals that this agreement introduces more uncertainty than it resolves. The unresolved final terms mean headline risk will be elevated, creating an environment where implied volatility is likely undervalued. Derivative traders should therefore consider positioning for an increase in price swings across major European indices.
The German index’s significant drop highlights the market’s concern over the new terms, especially for its export-driven economy. With the German auto industry exporting nearly 500,000 cars to the U.S. in 2023, a 15% tariff presents a direct and material threat to corporate earnings. We see this as a clear opportunity to buy put options on the DAX or on an ETF tracking European automakers.
Volatility And Trading Strategies
Historically, periods of trade negotiations, like the U.S.-China disputes from 2018-2019, led to sharp spikes in volatility indices. The Euro Stoxx 50 Volatility Index (VSTOXX) is currently trading near 15, which is low by historical standards of market stress. We expect this to climb, making long volatility positions, such as straddles on the CAC or Euro Stoxx 50, attractive plays on the forthcoming uncertainty.
The Italian market’s flat performance suggests it may be perceived as more insulated, but the broad nature of the tariffs on semiconductors and pharmaceuticals will eventually create headwinds there too. The EU’s large purchase commitments in energy also introduce an inflationary variable that could pressure European businesses. This points toward a strategy of selling out-of-the-money call spreads on broader indices, which would profit from a sideways or downward drift.
