Year in review

Global investors weathered quite a year in 2024, including global central bank pivots to easy monetary policy, voter pivots to opposition parties, rapidly rising national debt levels, and escalating geopolitical strife. Markets responded with solid returns for risk assets as monetary stimulus was added to the fiscal stimulus punch bowl. Fixed-income returns struggled, with rising longer-term yields fostered by stubborn inflation and swelling government debt. Precious metals and cryptocurrencies were notable performers on heightened demand from central banks and retail investors, respectively, while familiar themes repeated themselves—including another banner year for the Magnificent 7 in the U.S. and another disappointing (if not slightly encouraging) year for Chinese stimulus expectations. Lastly, investors were treated to a lump of coal from U.S. policy-makers in December, as the Federal Reserve (Fed) took a hawkish turn, calling into question the future path of policy rates in the world’s largest economy.

With that highly abridged look back, let us turn our attention to 2025 and the road that lies ahead. Last year at this time, we expressed our contrarian market views that inflation would remain stubborn instead of subdued and that longer-term interest rates were likely to increase rather than follow central bank policy rates lower. This year, we find ourselves in a somewhat uncomfortable position of being in consensus with market expectations…at least in part. After two consecutive years of strong equity returns, most market strategists are predicting more of the same in 2025. Our view is slightly more nuanced, as we do find ourselves broadly positive on risk assets (both equities and credit) yet also keenly aware of the potential challenges in the coming year.

Notables for the quarter
 

• Emerging equity: Down 8% on tariff concerns.
• Bitcoin: Up over 45% on new U.S. administration favorable to crypto.
• Tesla: Gained 54%, boosted by Elon Musk’s relationship with new U.S. administration.
• U.S. 10-Year Treasury yield at 4.6%: Stronger data and a hawkish Fed push interest rates up about 80 basis points.
   

Balancing act

We believe that the relatively robust state of the global economy, particularly in the U.S., combined with continued monetary stimulus measures from central banks around the world, will be enough to keep the rally going into the New Year. However, we say “in part” given what we also see as a precarious balancing act for global markets in 2025. Investors will need to weigh pros and cons on several fronts, including:

• Higher earnings from less regulation and lower corporate taxes versus higher inflation from tariffs and immigration policies.
• Easy monetary and fiscal policies boosting risk assets in underperforming economies versus stimulus measures leading to higher interest rates in outperforming countries.
• Austerity efforts leading to meaningful long-term reform versus tax cuts and inertia failing to alter the current growth rate in government debt.
• Policy changes lessening pressures on commodity prices versus escalating global conflicts and trade wars keeping prices and volatility high.
• Broadening earnings supporting higher equity valuations in the U.S. versus lofty earnings expectations setting the bar too high for elevated price/earnings multiples.

Our trepidation is due to our own weighing exercise and what we see as too many potential outcomes leading to a reacceleration in inflation and higher long-term interest rates.

Guide for ‘25

The bond market seems to share our concerns, as long-term U.S. yields have risen roughly 90 basis points since the Fed pivoted to lower interest rates with a surprising 50-basis-point cut in mid-September of 2024. Equity markets began to pay attention into year-end as yields rebounded from a post-election rally. In short, we think inflationary pressures and higher interest rates can potentially spoil the risk-rally party. The yield on the 10-year U.S. Treasury is our guide for 2025. We will get concerned about equity markets once the yield reaches 5%, as tighter financial conditions may begin to weigh on growth prospects.

Within equities, we continue to expect a broadening of participation in the rally. Earnings have surprised to the upside and have shown strength outside of big tech, while lower taxes and less regulation should be a bigger boost to mid- and small-sized companies. In addition, markets outside of the U.S. are far from priced to perfection as both earnings expectations and valuation multiples have more room to move higher. We expect additional stimulus from the European Central Bank given weakness in the core of Europe and further efforts from China to find the right mix of both fiscal and monetary stimulus measures.

Not surprisingly, we maintain our strategic recommendations for investors to stay diversified globally and focus on profitable companies with strong earnings momentum trading at reasonable prices. Given our views on the likelihood of higher interest rates and heightened volatility, we continue to lean into value and active management across our equity strategies. We favor sectors such as financials, industrials, and staples.

Within fixed-income markets, we remain cautious on interest rates and sanguine on credit. We believe the Fed is still biased toward lower rates (although we may see a pause in early 2025) despite core consumer price index and gross domestic product readings both above 3%. In addition, the reality of tariffs and immigration reforms may add additional fuel to the inflation fire early in the year. Therefore, given our outlook for higher long-term interest rates, we see headwinds for fixed-income returns. On a more positive note, while credit spreads have limited room to tighten, absolute yields remain attractive, defaults remain low, and maturities have been extended. Carry strategies in high-yield bonds and collateralized loan obligations (CLOs) should perform well.

Commodities represent a mixed bag for 2025. The energy complex could buck the inflationary trend on increased supply, while precious metals should benefit from central bank demand. We remain overweight, but cautious, in this space as an inflation hedge.

Currencies could exhibit some notable moves in 2025 as monetary policy divergences and protectionist saber-rattling will likely increase volatility. While the U.S. dollar (USD) appears overvalued, it should remain in a strong position in the short term on interest rate differentials alone. The Japanese yen managed to finish 2024 substantially weaker on slower-than-expected policy responses to inflationary pressures but looks undervalued. The euro has weakened in response to a lagging economy and could test parity with the USD in early 2025.

We wish all our Forward readers a prosperous and happy New Year.

Indexes
*Tales of the tape: U.S. equity: S&P 500 Index; Global ex-U.S. equity: MSCI ACWI ex-U.S. Index; Global Treasurys: Bloomberg Global Treasury Index; Commodities: Bloomberg Commodity Index.

Indexes definitions

The Bloomberg Commodity Index comprises futures contracts and tracks the performance of a fully collateralized investment in the index. This combines the returns of the index with the returns on cash collateral invested in 13-week (three-month) U.S. Treasury bills.

The Bloomberg Global Treasury Index tracks fixed-rate, local currency government debt of investment grade countries, including both developed and emerging markets.

The MSCI ACWI ex USA Index tracks the performance of both developed-market and emerging market countries, excluding the United States.

The S&P 500 Index is a market-weighted index that tracks the performance of the 500 largest publicly traded U.S. companies and is considered representative of the broad U.S. stock market.

Glossary

A basis point equals .01%.

A carry trade involves borrowing at a low interest rate and then investing in an asset with a higher interest rate.

Collateralized loan obligations (CLOs) are securities that have been created by pooling smaller high-yielding fixed income assets such as bank loans. These pools are then packaged into various tranches (a slice or portion of a structured security) according to credit quality, maturity, etc.

Momentum is a trend-following investment strategy that is based on acquiring assets with recent improvement in their price, earnings, or other relevant fundamentals.

Quality comprises a long-term buy-and-hold strategy that is based on acquiring shares of companies with strong and stable profitability with high barriers of entry (factors that can prevent or impede newcomers into a market or industry sector, thereby limiting competition).

Risk assets, such as equities, commodities, high-yield bonds, real estate, and currencies, carry a degree of risk and generally are subject to significant price volatility.

Value is an investment strategy that is based on acquiring assets at a discount to their fair valuations. Mean reversion is a theory that prices and returns eventually move back towards their historical average.

















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