US President Donald Trump adopted a strident tone on trade talks with China over the weekend, saying that any deal could not be 50-50 between the two countries. Instead he argued that an agreement would have to tilt in favor of the US to compensate for past trade abuses by China. The US president argued that China was being "killed" by higher US tariffs, which he said were causing companies to move production out of China to other Asian countries.

The forthright comments from President Trump underline the challenges to reaching an accord. But while we expect the process to be bumpy, we still believe a truce on trade is likely over the coming six months. We see three main potential scenarios.

* An agreement over the next two months with an announcement at the G20 meeting in late June: This positive scenario could prompt a 5%–10% rally in US equities and 10%-15% rise in Chinese stocks, but we see only a 20% chance of this outcome. Such a rapid solution would require both sides to bridge the gap with significant concessions. That looks unlikely given recent signals from the presidents of both nations.

* A breakdown of trade talks: We assign this a 30% probability. We remain alert for signs that either side starts to calculate that the political benefits of a confrontational stance on trade outweigh the potential threat to economic growth. An escalation of US tariffs to include the remaining USD 300bn of Chinese goods not currently covered by punitive tariffs would entail significant economic downside for the US. This would include a host of goods – from smart phones to textiles – that the US would struggle to source from other countries. In this downside scenario we would expect US equities to fall by 10%-15% and Chinese stocks by 15%.

* A bumpy road to a trade deal: We assign a 50% chance to this outcome, making it our base case. So far both sides have indicated a willingness to continue talks. While reaching agreement will not be easy, economic self-interest should still prevail. Financial market developments or changes in the economic outlook could affect the timeline and the pace of the negotiations. A significant market correction (15%–20%) or weakening in economic data could force one of the two sides to offer greater concessions. In the base case scenario we expect volatility to remain high and see 3%-7% upside for US equities and 5%-10% for Chinese stocks. So given the outlook we recommend staying invested, while considering strategies to protect against tail risks and volatility. Green bonds for example can help investors mitigate risks to their credit portfolio given their less cyclical profile. For more details, see our 18 April note, Be prepared: Plan, Protect, and Grow. We will continue to monitor our positioning and make adjustments as warranted by the evolving risk-return outlook.