Investment Management

Market Update: A Look Back at April's Market Drama

Have you ever noticed how quickly fear can spread in the financial markets? Or how a headline can send shockwaves through risk assets in a matter of hours?

That's exactly what happened in early April.

And it happened because the White House announced sweeping tariffs, escalating the Trade Wars and just like that, the S&P 500 dropped more than 10% in a single week.

Of course, investors panicked, and uncertainty took center stage.

But then, just as quickly as the fear appeared, it seemingly faded. The administration paused those tariffs, cooler heads began to prevail and by the end of the month, the market had clawed its way back, finishing April with a loss of less than one percent.

The bond market was a completely different story. That's because interest rates didn't know which way to go.

Indeed, they bounced around all month long, responding to every new headline and every ounce of economic doubt. But despite all the noise, they ended up right where they started, flat for the month.

Why Is Policy Driving the Markets?

Now, if you've been wondering what's really moving the markets this year, it all boils down to policy uncertainty.

The truth is that the rules of the game are changing as the direction out of Washington is shifting.

And when the future feels uncertain, people pause, businesses wait and consumers tend to hold back.

At the same time, market participants begin to take notice and start asking, "Is this the start of something bigger?"

Certainly, we've already seen the impact in some corners of the economy. Some consumer demand was pulled forward earlier in the year due to tariff concerns.

But now, there's a hesitation as surveys show that businesses and households are beginning to delay big spending and investment decisions because no one wants to make a move when the rules of the game might change tomorrow.

What's Going On with Stocks?

So then, what has this meant for stocks? Well, the fact of the matter is that what we're seeing in the markets today is when yesterday's winners stop winning. Indeed, the mega-cap Magnificent 7 tech stocks that dominated last year are down more than 15% in 2025 after soaring over 60% in 2024.

Even so, that doesn't mean all stocks are struggling because many investors have already begun shifting their focus to defensive sectors like Utilities, Consumer Staples, Health Care, and Real Estate.

And even though the S&P 500 is down more than five percent, these sectors are showing strength because, in uncertain times, people look for stability.

What's even more striking here is that for the first time since 2023, international stocks are leading the way. In fact, the first quarter was one of their best showings in over two decades.

So then, if you've been ignoring markets outside the U.S., now might be a good time to pay attention.

What About Bonds and the Fed?

And how have bonds done this year? Well, these markets have not been immune from the heightened level of volatility.

Indeed, Treasury yields have been jumping in response to, tariffs, debt concerns, inflation risks, and that ever-present cloud of uncertainty.

At the same time, corporate credit spreads, or the premium that investors demand above holding "safe" investments, have started to widen again.

That's making riskier high-yield bonds less attractive because investors are pricing in the unknown as they're preparing for a wide range of outcomes, and that's exactly what causes volatility.

Now, in the midst of all this volatility, the Fed is waiting patiently on hold. Rate cuts haven't started yet, but the market is betting that the first one will come in June. And not just one, but multiple cuts are now expected by the end of the year.

But that, of course, depends on how the economy holds up and how inflation behaves in the months ahead.

So What Does This Mean for You?

So, what should we make of all of these developments?

Well, the bottom line here is that markets threw a tantrum in April as policy uncertainty stirred the pot.

And for a moment, it felt like everything was up in the air.

But the fact of the matter is that this is what markets do when the path ahead feels unclear.

They test convictions, they expose cracks and they remind investors that uncertainty is the cost of admission for long-term growth.

Nevertheless, uncertainty doesn't have to equal instability.

Because if you have a clear purpose, a thoughtful plan, and a disciplined process for staying on track, then these moments become less about reacting and more about reaffirming what you already know to be true.

That's why now may not be the time to chase returns or make sweeping changes to your investment portfolio.

Even so, it may be the perfect time to revisit your strategy, reassess your positioning, and evaluate whether your plan is built for this kind of environment.

If you're not sure, let's have that conversation.

Because you don't have to predict the future to prepare for it, you just need to know what you own, why you own it, and what to do next.

That's what we help our clients do every day.

by Peter Donisanu

What to Make of Weaker First Quarter Growth?

Last week, incoming data showed that the U.S. economy shrank in the first quarter of 2025, the first time in several years we've seen this happen.

Now, it's essential to note that one quarter of decline doesn't mean a recession is inevitable. But with today's unpredictable economic policies, it's fair to wonder if this could be the beginning of a short-term slowdown.

Why Predicting the Economy Is Harder Than Ever

Indeed, trying to figure out where the U.S. economy is going has never been easy. But in the years since the pandemic, it's become even more difficult.

That's because many of the tools economists used to rely on don't seem to work as well anymore. For example, when interest rates rise, that usually signals a slowdown or even a recession in the making.

But in the past five years, even with warning signs in place, Americans kept spending. And since consumer spending makes up over two-thirds of the U.S. economy, this has helped keep things growing.

So, what's changed?

Well, what's likely different this time around is the policy environment. We're dealing with a new set of economic rules and decisions that make predictions more complicated.

And these changing policies create more uncertainty, and that can weigh on both consumers and businesses. Because of this, the chances of a recession, or at least slower growth, may be rising as these policy effects ripple through the economy.

What Caused the First-Quarter Economic Decline?

So then, to better understand what's behind the recent slowdown, we need to look at the key parts of economic growth.

And as you'll likely recall from your economics courses in college, gross domestic product (GDP) is made of: 1) government spending, 2) business investment, 3) household spending, and 4) net exports (exports minus imports).

So, what did the data show us?

Well, in the first quarter, two things stood out as the leading causes of weaker growth: a drop in government spending and a sharp increase in imports.

Now, the rise in imports likely happened because of the Trade War, as businesses and consumers were trying to buy goods before prices increased.

To be sure, as trade tensions have returned, and tariffs on some items are now as high as 150%, that's led many to act early, stocking up before things get worse.

Now, the drop in government spending is more complicated.

That's because overall federal spending is still higher than in past years, but when adjusted for inflation and measured quarter by quarter, it appeared to fall. That technical dip was enough to drag down total economic output.

What the Numbers Don't Tell Us

While hard data like GDP shows us what already happened, it's also essential to pay attention to soft data, like how people and businesses are feeling about the future. This kind of information can help predict what's coming next.

And lately, people haven't been feeling very confident. For example, a recent University of Michigan survey showed consumer confidence hit its lowest point in two years. A lot of that concern comes from worries about inflation and what future policies might bring.

We're also seeing changes in the job market. That's because data are showing there are fewer job openings, and layoffs are becoming more common. These are signs that employers are starting to pull back, something that often happens toward the end of an economic cycle.

And adding insult to injury, even shipping activity has slowed. At major ports on the West Coast, freight volumes have dropped, showing that businesses may be holding off on orders as they wait to see how trade issues unfold. All of this points to a more cautious mood taking hold across the economy.

The New Trade War: What's Changed?

Another factor adding pressure to the economic outlook is the return of Trump's Trade Wars.

But this time, businesses are handling the tariffs in a much different way than they had during Trump's first administration.

That's because, during the first trade war in 2018, many businesses chose to absorb tariff costs to keep their customers. But now, more of them are passing those costs directly to shoppers.

That makes everything more expensive, and if prices keep going up, people may start spending less. If trade problems continue, and if businesses and consumers respond by cutting back, it could create a chain reaction that leads to even slower growth.

So, Are We Heading for a Recession?

Nevertheless, it's too soon to say for sure whether we're heading for recession. Frankly, one quarter of economic decline is not enough to call for a slowdown, particularly when the factors could be temporary.

Indeed, even experienced economists often struggle to predict when a recession will hit.

But one thing is clear: today's policy environment isn't helping. And ongoing uncertainty about trade, inflation, and regulation has made people and companies more cautious about spending and investing.

If that uncertainty doesn't clear up soon, the risk of economic weakness and higher prices will likely grow.

In times like these, it's easy to get distracted by scary headlines or market swings. But this is precisely why having a strong financial plan matters.

When things feel shaky, your plan should be your guide.

Now is not the time to make big changes out of fear. Instead, lean on the thought and strategy that went into your long-term plan.

That kind of discipline is what helps you stay on track, especially when the road ahead feels uncertain.

by FMA|Perspectives

Liberation Day: What to Make of the Latest Tariff Announcement

This week, the U.S. government announced new tariffs starting with a 10% tax on all imported goods starting April 5.

Some countries, like China, will face even higher tariffs as part of a plan to push for fairer trade. These changes have caused markets to react quickly, with some stocks falling sharply and investors turning to safer options like bonds.

Now, it’s natural to have questions about what this means for the economy, your cost of living, and your investments.

That’s why in this update, I’ll walk you through what’s happening, why it matters, and how to think about your next steps.

What’s Happening and Why Now?

The Trump administration is rolling out a major shift in trade policy.

Beginning April 5, a 10% tax will apply to all goods imported into the U.S., with very few exceptions.

Then, on April 9, extra tariffs will be added for about 60 countries that are seen as having unfair trade practices.

For example, goods from China could face tariffs as high as 54%.

The goal?

Reduce the country’s $1.2 trillion trade deficit and bring manufacturing jobs back to the U.S.

This plan has been in the works since the last presidential campaign, and President Trump is calling the launch “Liberation Day,” hinting that these changes could be long-lasting.

Still, other countries may push back, and that could force future changes to the plan.

Are We Headed for a Trade War or Recession?

Right now, countries like China and those in the European Union are warning that they may fight back by placing their own tariffs on U.S. goods.

That raises fears of a trade war, which could slow the global economy. But so far, no official counterattacks have been made.

Economists say these tariffs could reduce U.S. economic growth and increase inflation, meaning prices might go up.

That doesn’t mean a recession is guaranteed, though.

The last time tariffs were raised back in 2018 growth slowed but stayed positive, thanks to strong consumer spending.

These new tariffs cover more goods, so the risks are higher, but the future is still uncertain.

How Are Markets Reacting?

Markets don’t like surprises, and this announcement was a big one.

Stocks dropped as news broke, especially for companies that rely on imports, like Apple, Ford, and Nike.

At the same time, bond prices went up as investors looked for safer places to put their money. Oil prices also fell due to concerns about slower economic growth.

While this reaction feels dramatic, it’s also common.

Markets often move quickly on news before all the details are known. That’s why we stay focused on long-term investing.

Your portfolio was built with days like this in mind, and it includes a mix of assets including U.S. and international stocks, bonds, and real estate that work together to manage risk.

Will This Raise My Everyday Costs?

Possibly, but not right away.

While tariffs begin in early April, it takes time for supply chains to adjust.

Some companies may raise prices, but others might absorb the extra costs at first.

If prices do go up, it could mean an extra $1,000 a year for the average household, with increases on things like phones, cars, and appliances.

Still, these are estimates, not guarantees.

We’ll be watching how companies respond and how prices shift over the next few months.

What Should I Do Right Now?

There’s no need to take action right away.

The effects of these tariffs will unfold over time. If you’ve been planning a big purchase. like a car, it might make sense to move sooner, just in case prices rise.

For everyday expenses, consider leaving a little extra room in your monthly budget.

As for your investments, patience is key.

We’ll keep a close eye on how things develop, and we’re here if you have questions.

Nevertheless, keep in mind that reacting too quickly to headlines can do more harm than good over the long-term.

Big Takeaway

Uncertainty is part of investing, and times like these are exactly why we’ve taken a diversified, long-term approach.

I’ll continue monitoring how these tariffs play out and keep you updated along the way.

If you’re feeling concerned or just want to talk things through, don’t hesitate to reach out, I’m always here to help.

by Peter Donisanu

Fed Policy: Are Rates Poised to Head Higher or Lower in 2025?

Are interest rates headed higher or lower in 2025? Well, it likely depends on the incoming data.

Indeed, not long ago, the Federal Reserve launched one of the fastest rate-hiking cycles in history as it was determined to bring inflation down from a multi-decade high. After keeping rates elevated for more than a year, the Fed shifted course in late 2024, cutting rates by a full percentage point between September and December.

Today, however, policymakers appear to be taking a "wait-and-see" approach as incoming data present conflicting stories.

The Fed's Balancing Act: Inflation vs. Employment

Now, to understand where things stand, it helps to remember that the Fed has two main responsibilities.

First, it aims for price stability, which means keeping inflation low and predictable. Second, its job is to seek out full employment, ensuring conditions that encourage job growth while keeping unemployment in check. The challenge today is that these two goals don't always align perfectly. And right now, the balance between them is changing.

How so?

Well, consider inflation. The chart in Figure 1 tracks the year-over-year change in the Consumer Price Index (CPI), which measures how the prices of everyday goods and services fluctuate. Throughout most of 2024, inflation had been steadily declining.

However, in January 2025, inflation picked up again. CPI rose 0.5% from the previous month, marking the largest increase since August 2023. As a result, the annual inflation rate inched up to 3.0%, slightly above December's 2.9%.

And while inflation has come down significantly from its peak of nearly 9% in mid-2022, progress has stalled in recent months. Indeed, since late 2023, CPI has hovered around 3%, raising concerns that inflation could remain above the Fed's 2% target for an extended period.

Conflicting Jobs Data

At the same time, the labor market continues to show resilience. Figure 2 highlights the U.S. unemployment rate, which remains strong by historical standards.

In fact, in January, unemployment edged lower to 4.0% which is the lowest its been since May 2024. To be sure, while employers added 143,000 jobs that month, which was a slower pace compared to the post-pandemic hiring boom, it was nevertheless a sign of steady demand for workers.

At the same time, job numbers from November and December were revised higher, revealing that the economy created 100,000 more jobs than initially reported.

And this has been problematic for the Fed given that just a few months ago, policymakers pointed to rising unemployment as a reason to begin cutting rates. However, recent data suggests that the labor market is not weakening as quickly as many had expected.

What Does this Mean for Interest Rates?

So, what does this mean for interest rates?

Well, in 2024, the Fed started cutting rates to shift its focus from controlling inflation to supporting job growth. However, now that inflation progress has stalled and the labor market remains stable, many believe the Fed will pause further rate cuts until it has more clarity.

In fact, at its January 2025 meeting, the central bank chose to keep interest rates steady after three consecutive cuts. At the same time, Fed Chair Jerome Powell reinforced this cautious stance, explaining that there is no immediate need to rush into further adjustments.

What Should You Do About It?

Looking ahead, there are signs that market expectations have shifted.

To be sure, instead of anticipating another rate cut in the early months of the year, many now expect the next adjustment to come in June 2025. However, the real question remains: Will inflation continue to cool, or will the Fed need to rethink its strategy once again?

With the political climate shifting, budget cuts looming, and both households and businesses feeling more cautious, the Fed's decision to pause may not be a sign of confidence but rather a reflection of uncertainty.

Could inflation take another leg down if demand slows further? That remains to be seen. But more importantly, what does all of this mean for your investments?

Right now, it's very well likely that we're in a period of transition. The economy is adjusting, and markets are searching for direction. But if history has taught us anything, it's that trying to predict where markets will go in the next 12 months, or even the next 12 weeks, is rarely a winning strategy.

Indeed, over the past five years, market behavior has looked very different from the decade before.

The Big Takeaway

So, what should you focus on instead?

Well, one thing that hasn't changed is the value of a well-diversified portfolio. While markets shift and economic conditions evolve, diversification remains one of the best ways to manage risk. This approach ensures that no single event, no single policy decision, and no single downturn can completely derail your long-term progress.

Either way, here's the big takeaway: There is still plenty of uncertainty surrounding inflation, interest rates, and the economy. While some indicators point to slower growth ahead, the wisest approach isn't to react to every twist and turn.

Instead, it's to stay disciplined, stay focused, and stay committed to your long-term plan. Now more than ever, doing so will keep you from being caught off guard no matter which way the markets move next.

by FMA|Perspectives

Changing AI Leadership, Trade War 2.0 and Market Volatility

Monthly Market Summary

• The S&P 500 Index returned +2.7% in January, marginally outperforming the Russell 2000 Index’s +2.5% return. Seven of the eleven S&P 500 sectors outperformed the index, as AI-related news led to a sell-off in Technology stocks.
• Corporate investment-grade bonds produced a +0.6% total return as Treasury yields edged lower but underperformed corporate high-yield’s +1.4% total return as corporate credit spreads tightened further.
• International stock returns were mixed. The MSCI EAFE developed market stock index returned +4.8% and outperformed the S&P 500 due to strength in Europe, while the MSCI Emerging Market Index returned +2.2%.

Changes in Market Leadership

One month into the new year and markets have continued to rally; however, renewed geopolitical uncertainties could pose challenges to solid market gains. Indeed, after a strong showing in 2024, stocks traded higher to start 2025, but the factors driving the rally took on a different character in the past month than we have seen over the past year. For example, the segment of stocks that powered the recent market gains, Large Cap Value stocks, had lagged over the past year but outperformed Large Cap Growth by more than 2.5% in January.

At the same time, the Dow Jones Industrial Average climbed back toward its all-time high in early December after closing last year on a weaker note. Meanwhile, growth stocks, as measured by the Nasdaq 100 and the Technology sector in general, which led markets higher for most of 2024, underperformed the broader index for the month.

This shift was largely driven by AI-related developments in China, which raised concerns about U.S. dominance in the sector and broader market trends. What this means is that while tech stocks powered last year's gains, other sectors may take the lead in 2025, especially if geopolitical risks remain contained. This kind of shift in leadership is not uncommon following strong market years, as investors look to rebalance portfolios and identify opportunities in areas that were previously overlooked.

Are Tech Stocks Out of Steam?

So then, is tech as a driving force of the current rally down for the count this year? It might be too soon to tell. Indeed, January saw a major shake-up in artificial intelligence (AI), with ripple effects across U.S. markets. That's because Chinese startup DeepSeek introduced an AI model that claims to be able to compete with top U.S. platforms like ChatGPT but at a fraction of the cost. The model was allegedly developed using less advanced and cheaper chips, challenging the assumption that leading AI models require heavy investment in high-performance computing. If this approach catches on, it could significantly alter the industry and affect U.S. leadership in AI.

That's why markets reacted quickly, and the impact was significant, leading to a selloff in U.S. tech stocks, especially those that had seen strong gains on AI growth expectations. That's because the prospect of lower-cost AI development raised concerns about the demand for high-end chips. So then companies like Nvidia, a key supplier of advanced AI hardware, saw its market capitalization fall by nearly $600 billion, which was one of the most significant single-day losses for a U.S. company.

At the same time, the selling pressure extended to Microsoft, Alphabet, and Meta, as investors reassessed what appears to be rich valuations in the AI space. And this market response likely reflects broader worries that progress in the AI space may not be as capital-intensive in the future as once believed, which could challenge the dominance of companies that have benefited from high investment requirements in AI-related infrastructure.

Even so, what's notable here is that although the initial market decline was concentrated in a handful of companies, their heavy weighting in the S&P 500 dragged the broader index lower. Nevertheless, investor sentiment is rarely one-sided, and after the initial selloff, markets stabilized coming into February as some investors viewed the pullback as a buying opportunity, particularly in areas of the market that may benefit from AI-driven cost efficiencies. Still, given AI's significant role in market performance, markets will be keen to keep a close eye on developments in the sector while rebalancing to other market opportunities.

Trade War 2.0 Developments

Changes in trade policy also added another layer of market uncertainty after a solid start to the year. That's because, on February 1, 2025, President Trump announced new tariffs as part of what some are dubbing "Trade War 2.0": 25% on imports from Mexico and Canada (with a 10% levy on Canadian energy products) and 10% on Chinese imports. The move is positioned as an effort to address trade imbalances and immigration concerns and prompted immediate responses from major trading partners. Even so, Canada and Mexico secured temporary delays while committing additional resources to combat organized crime and drug trafficking.

But, China responded swiftly, imposed tariffs on U.S. coal, liquefied natural gas, crude oil, and agricultural machinery while launching an antitrust probe into Alphabet. The reaction in financial markets was immediate, with major indices dropping over 1% and the U.S. dollar reaching a 20-year high against the Canadian dollar. Markets have since recovered modestly since the initial selloff, but the surge in the dollar could have additional implications for U.S. multinational companies, as a stronger currency can weigh on exports by making American goods and services more expensive overseas.

These developments reinforce the risks of an escalating trade war, which could lead to higher inflation, supply chain disruptions, and slower economic growth in affected regions. And while markets have endured trade-related tensions in the past, the unpredictability of policy responses are likely to keep investors on edge, especially as incoming data suggests that economic growth is moderating.

Looking Ahead

So, what does this mean for your portfolio? Well, over the next few months, investors will be watching trade policy developments, AI innovation, and Federal Reserve decisions for signals on market direction. While the broadening of market leadership suggests a more balanced rally, geopolitical and macroeconomic risks remain a central headwind to any potential market rally.

Here's the big takeaway: This complicated environment makes it especially important for investors to avoid reacting too strongly to short-term headlines.

Indeed, it's essential to remember that markets don't move in a straight line, and with AI disruptions and trade tensions shaping 2025, staying committed to your long-term plan will be key. Because the question isn't just how these forces play out, it's how you position yourself in response.

Therefore, taking a proactive approach to portfolio positioning, especially rebalancing your investments rather than being swayed by short-term volatility, will be critical to navigating market volatility.

Either way, how political and economic events unfold will shape the market's trajectory. But for now, the best strategy is to focus on your disciplined investment strategy, ignore the noise, and ensure your financial plan is positioned to give you clarity, confidence, and peace of mind as you move through another period of economic and market uncertainty.

by Peter Donisanu

What do Stretched Market Valuations in 2025 Mean for Portfolio Returns?

The S&P 500’s Unprecedented Rally

Since the start of 2023, the S&P 500 has surged more than 50%, building on a remarkable rally of over 150% from its March 2020 pandemic low. These gains have delivered record highs and lifted portfolios, but they’ve also pushed valuations into historically stretched territory. The
S&P 500 now trades at over 21 times its projected earnings for the next 12 months which is a level reminiscent of the late-1990s tech bubble or the post-COVID recovery, when interest rates hovered near zero.

What does this mean for investors? Should you celebrate the recent rally or pause to consider what’s next? While today’s valuations might be cause for concern, recent market experience raises another important question: how can you stay disciplined in a volatile environment?

The fact is that exiting the market during uncertain times or taking on unnecessary risk can lead to costly mistakes. Instead, a balanced, long-term investment strategy remains essential for navigating today’s unique challenges while staying aligned with your financial goals.

 Valuations: A Historical Perspective

Nevertheless, a key question that that we’re trying to answer with today’ analysis is, “how often do we see markets trade at such elevated levels, and what does it mean for portfolios?”

Upon inspection, there is no doubt that the current valuation of the S&P 500 is rare, with broad market indices trading at over 21 times forward earnings which is a figure not commonly seen outside exceptional periods.

And why does this matter? Because while valuations may not dictate short-term performance, they play a critical role in shaping long-term returns. But put more simply, understanding how valuations work can help you as an investor by setting realistic expectations for the years ahead.

Short-Term vs. Long-Term: The Role of Starting Valuations

Indeed, figure 1 helps illustrate why starting valuations matter. It tracks the relationship between the S&P 500’s starting valuation and future returns over various holding periods. The horizontal axis shows the length of the holding period in years, while the vertical axis highlights the R-squared (R²) measure, which quantifies how much one variable explains another.

But what does that mean in practical terms? Well, for example, an R² of 0.40 means 40% of changes in one variable can be linked to the other, with the remaining 60% due to randomness or other factors. This means that in the short term, valuations don’t explain much because there’s a low R² for holding periods of just a few years. But over longer time frames, the relationship strengthens. Because by the 10-year mark, starting valuations explain roughly 80% of return variability, underscoring their importance for patient, long-term investors.

What the Numbers Tell Us: Figures That Matter

Now, if we zoom out and look at valuations and their impact on longer-term returns we see a different picture. Figure 2 shows how the S&P 500’s starting valuation impacts its next 10 years of annualized returns. This is represented by the normalized price-to-earnings (P/E) ratio, which averages inflation-adjusted earnings over the past decade to smooth out short-term noise.

So then, do higher starting valuations always mean lower returns? Historically, yes. The chart slopes downward, revealing that as valuations increase, forward returns tend to decrease. With today’s normalized P/E ratio sitting at 37, which is an extreme level by historical standards, the S&P 500 could deliver low single-digit annualized returns over the next decade.

Balancing Risk in a Stretched Market

Should you be worried about these numbers? The insights are sobering, but they must be placed in context. While history is an invaluable guide, it’s not a crystal ball. Indeed, figure 1 makes it clear that valuations alone don’t predict short-term results, and markets can stay expensive longer than expected. However, when setting expectations for the years ahead today’s valuations be part of the conversation.

Staying the Course: A Strategy for Long-Term Success

To be sure, current market conditions are a clear signal that it’s prudent to avoid taking on unnecessary risk in today’s market environment. Yet, if the past five years have taught us anything, it’s also the importance of steadiness and staying steadfast to your plan.

Because exiting the market during uncertain times or overreacting to short-term fluctuations can jeopardize your long-term financial planning goals. That’s why now, more than ever, it’s essential to strike the right balance and acknowledge today’s risks while staying committed to a disciplined, long-term investment strategy that aligns with your long-term financial plan.

by Peter Donisanu

2025 Economic & Market Outlook

Key Updates on the Economy & Markets

There was no shortage of market-moving events in Q4. The stock market opened the quarter with a slow start in October, but the outcome of the presidential election triggered a broad rally in November.

The rally faded as the year ended, although the S&P 500 trades only a few percentage points below its all-time high. The credit market was equally active in Q4, with the Federal Reserve cutting rates by another -0.50%. However, the major development was the changing 2025 outlook.

The Fed and the market both now expect fewer rate cuts in 2025 compared to the end of Q3, which resulted in a sharp rise in Treasury yields in Q4. This letter recaps the fourth quarter, looks back on the 2024 stock market rally, provides an update on the economy and the Fed’s rate-cutting cycle, and looks ahead to 2025.

Looking Back on the 2024 Stock Market Rally

The past two years have been remarkable for investors, with the S&P 500 delivering strong returns in back-to-back years. The three charts in Figure 1 take a closer look at the stock market’s rally in 2024, a year in which the S&P 500 set more than 55 new all-time highs.

The top chart, which graphs the S&P 500’s return for each calendar year since 1980, shows the index posted gains of over +20% in 2023 and 2024. It marked the first time since the 4-year stretch from 1995 to 1998, and like the late 1990s, large-cap technology stocks played a major role in the S&P 500’s gains.

The middle chart shows the 2024 price returns of seven ETFs, each reflecting exposure to companies of different market cap sizes. The chart reveals a significant gap between the returns of large-cap and small-cap stocks in 2024. The top bar tracks the Magnificent 7, a group that includes Microsoft, Apple, Alphabet, Meta, Amazon, Nvidia, and Tesla. These seven companies, which now account for more than 33% of the S&P 500, returned over +60%.

When the group expands from the Magnificent 7 to the 50 largest S&P 500 stocks, the return falls to +32%, still impressive but around half of the Magnificent 7’s return. Broadening the group further to include all S&P 500 companies reduces the index return to approximately +23%, and weighting companies equally rather than by market capitalization lowers the return to +11%.

The key takeaway is that the largest companies contributed a significant portion of the S&P 500’s return in 2024. Smaller companies delivered solid returns around +10%, but they underperformed on a relative basis. An index of mid-cap stocks returned +12%, while small-cap and micro-cap stocks returned +10% and +12%, respectively.

The concentrated stock market rally, which was driven by the outperformance of the largest companies, led to an unusual outcome. The bottom chart tracks the percentage of S&P 500 companies that outperformed the index during each calendar year. For the second consecutive year, fewer than 30% of S&P 500 companies beat the index in 2024. This is significantly below the average of 49% since 2000 and highlights the dominance of the largest companies in 2024.

Data Highlights the U.S. Economy’s Resiliency

The U.S. economy has consistently defied expectations of a slowdown since the Fed started raising interest rates in March 2022. Economists and market participants initially expected growth to slow as the Fed raised interest rates. However, it has now been nearly three years since the Fed’s first rate hike, and the economy continues to grow at an above-trend rate. While higher rates have slowed housing demand and weighed on business investment, the U.S. economy has managed to defy expectations with solid GDP growth.

The top chart in Figure 2 shows the U.S. economy grew at a +3.1% annualized pace in 3Q24, marking the third quarter in the past four with growth above +3%.

The bottom two charts show key drivers of economic growth since early 2022. The middle chart tracks the contribution of personal consumption expenditures (i.e., consumer spending) to U.S. GDP growth. Despite high interest rates, consumer spending has remained a steady driver of growth in recent quarters. Multiple factors have increased household net worth and bolstered consumers’ financial strength, including record-high stock prices, rising home values, and solid wage growth.

Additionally, many borrowers locked in low interest rates during the pandemic, which has made the U.S. economy less sensitive to rising interest rates this cycle.

The bottom chart shows the surge in manufacturing-related construction in recent years. For a long time, manufacturing construction was relatively modest, as most activity was outsourced to China, Mexico, and elsewhere. However, that changed in late 2021, around the time Congress passed trillions in new spending on infrastructure, green energy, and subsidies to incentivize U.S. manufacturing.

These spending bills have been extremely supportive of the U.S. economy and created a boom in the manufacturing of semiconductors, electric vehicles, batteries, and solar panels. The result is a surge in manufacturing-related construction, the largest on record, as companies build new warehouses, industrial facilities, and semiconductor plants. The artificial intelligence industry’s emergence has provided another catalyst, as companies like Microsoft, Amazon, and Meta spend billions on data centers, information processing equipment like semiconductors, and energy production to meet growing power demand.

Economic growth is forecast to slow but remain solid next year, driven by the Trump administration’s pro-growth policies. The new administration’s policy agenda focuses on extending the 2017 tax cuts, reducing regulations across industries, and boosting domestic manufacturing through targeted incentives. These measures have the potential to stimulate capital expenditures, expand manufacturing capacity, and attract foreign investment to the U.S.

An Update on the Fed’s Interest Rate-Cutting Cycle

The Fed continued its rate-cutting cycle in Q4, lowering interest rates by -0.25% at both the November and December meetings for a total of -0.50%. The two -0.25% rate cuts were well telegraphed by the Fed and widely expected, but the big development in Q4 was the changing outlook for 2025.

Despite the two rate cuts, Fed Chair Jerome Powell and other Fed presidents indicated they are not in a hurry to cut rates further. The change in tone follows the U.S. economy’s recent strength, which has caused the Fed to re-examine the need for additional rate cuts.

Recent economic strength has also led the market to re-evaluate its rate cut forecast. This dynamic can be seen in the bond market, where longer-maturity Treasury yields have risen sharply since the first rate cut in September.

Figure 3 graphs the 10-year Treasury yield against the federal funds rate, which is the interest rate the Fed adjusts to set monetary policy. Since the first rate cut in September, the federal funds rate has decreased by -1.00%. While the Fed controls shorter-maturity interest rates, the market has more control over longer-maturity interest rates. Over the same period, the 10-year Treasury yield has had the opposite reaction: rising by nearly +1.00%.

What caused Treasury yields to rise as the Fed cut interest rates? Two key data points contributed to the Fed’s decision to start cutting rates in September: falling inflation and rising unemployment. Inflation declined from 3.3% in July 2023 to 2.6% in August 2024, while unemployment rose from 3.5% to a high of 4.3%. The two trends caused the Fed to shift its focus from lowering inflation to supporting the labor market.

However, since the Fed started cutting, the trends have reversed. Inflation progress has stalled since September, and unemployment has declined to 4.2%. Heading into 2025, the Fed and the market have similar rate cut expectations: approximately -0.50% in cuts for the entire year. The question is whether they are placing too much emphasis on recent trends and underestimating the need for rate cuts. As both the Fed and the market saw in 2024, forecasting Fed policy is difficult, especially this cycle.

 Equity Market Recap – Stocks End the Year Higher

The stock market ended Q4 higher, but the path included periods of volatility. In October, the S&P 500 ended its five-month winning streak, with most of the equity market finishing slightly lower. The sluggishness occurred as Treasury yields rose after the Fed’s first rate cut in September, suggesting the sharp rise in yields may have played a role in October’s market action. However, stocks rebounded in subsequent months.

In November, the quick and decisive election outcome became a tailwind for stocks. Investor enthusiasm fueled the post-election rally, with stocks trading higher in anticipation of tax cuts, deregulation, and U.S.-focused trade policies aimed at benefiting U.S. companies. Small caps led the way during the broad market rally, with the Russell 2000 rising +11% in November to set a record high.

Bank stocks were another popular post-election trade as investors priced in expectations for financial deregulation and strong economic growth. Industrial stocks saw broad-based strength in anticipation of the Trump administration’s pro-growth policies and protectionist policies, which could spark an industrial renaissance in the U.S. By the end of November, the S&P 500’s year-to-date return surpassed +26%, putting the index on track for consecutive gains of more than +20%.

In December, the market’s excitement cooled, with the S&P 500 trading sideways and ending the month lower. Beneath the surface, a familiar trend from earlier in the year impacted returns, with smaller companies underperforming larger ones by a wide margin.

The Russell 2000 Index was hit hardest, falling -8.4% and giving back most of its post-election gains. Value stocks also traded lower in December, with the Russell 1000 Value Index declining by -6.8%. In contrast, the Magnificent 7 stocks discussed earlier gained more than +5%.

Shifting focus to global markets, international stocks underperformed U.S. stocks in Q4. The MSCI Emerging Market Index returned -7.2%, while the MSCI EAFE Index of developed market stocks returned -8.3%.

Both major international equity indices underperformed the S&P 500 by nearly -10% due to currency headwinds (i.e., a stronger U.S. dollar) and the outperformance of U.S. mega-caps. Looking ahead to 2025 for international markets, the potential for tariffs under the Trump administration is creating significant uncertainty across several global regions.

Credit Market Recap – Bonds Trade Lower as Interest Rates Rise Throughout the Quarter

The sharp rise in Treasury yields weighed on bond returns in Q4. The biggest differentiator within the bond market was duration, or the sensitivity of a bond’s price to interest rate movements.

High-yield corporate bonds produced a total return of -0.1% due to their lower sensitivity to rising interest rates and higher absolute yields. In contrast, investment-grade bonds returned -4% as rising yields had a bigger impact on their longer maturities. Excluding interest received and only looking at price returns, an index of investment-grade corporate bonds posted its biggest quarterly loss since Q3 2022.

Full-year credit returns highlight the key themes that shaped the bond market throughout 2024. Higher-quality bonds like U.S. Treasuries, corporate investment-grade, and mortgage-backed securities underperformed as the market debated and ultimately lowered its rate-cut expectations. In contrast, lower-quality bonds outperformed as economic growth and corporate fundamentals remained solid.

Corporate credit spreads, which measure the difference in yield between two bonds with a similar maturity but different credit quality, steadily tightened throughout the year. This provided a boost to lower-quality bonds in 2024 but has left credit spreads near their lowest levels in decades. For context, the U.S. high-yield corporate credit spread is near its lowest level since 2007, which means investors are receiving less yield in return for taking credit risk.

2025 Outlook – Key Themes to Watch

The S&P 500’s steady climb in 2024 reflects the market’s growing confidence. Investors are optimistic about the artificial intelligence industry’s growth potential. The U.S. economy outperformed expectations, growing at an above-trend rate in three of the past four quarters despite high interest rates.

The stock market rally intensified after the election in November, as investors focused on the incoming administration’s policy agenda. Expectations for tax cuts, deregulation, and energy production are fueling hopes for stronger economic growth.

The bond market echoes the equity market’s confidence, and corporate high-yield credit spreads are near their lowest levels in over 15 years.

However, the equity market rally has made broad market indices like the S&P 500 more concentrated and more expensive. The question on many minds is whether the momentum can continue in 2025.

The S&P 500 currently trades at nearly 22x times its next 12-month earnings estimate, a level not seen outside of periods like the late-1990s tech boom and the recent post-COVID recovery, when interest rates were near zero.

Investors have shown a willingness to pay higher multiples, but with valuations now at extremes, earnings growth will likely play an important role in determining the stock market’s path in 2025.

Figure 4 tracks the current bull market, which started in October 2022 and is now in its third year.

The current bull market has performed in line with historical norms, but the chart shows that returns often moderate as bull markets mature. This suggests that the market’s focus could shift to fundamentals and earnings as the next catalyst to push markets higher. 2025 is shaping up to be a year where companies will need to deliver on investors’ expectations to justify their high valuations.

by Peter Donisanu