Q1 2025 Market Outlook

MARKET OUTLOOK

We may be entering one of the most volatile times our economy has seen in the last twenty years. And that’s saying a lot, considering we’ve already endured two not-so-insignificant crises in the Great Financial Crisis of 08/09 and the COVID-19 pandemic. We already know that the challenges will not be limited to the economy or the stock market this time. Tariffs loom large in this cycle, certainly in the mind share of the current administration in Washington, and there are the added uncertainties of haphazard and potentially illegal staff cuts, deportations without due process, the dismantling of federal agencies, emerging autocratic tendencies in the White House—spurred on by a pliant Congress—and the upending of longstanding, loyal, global alliances. Alarmingly, with the majority of Americans receiving their news from social media, often in 15-second soundbites curated for their political leanings, the response from large swaths of voters has been tepid, if not mildly supportive. The headline “eliminating waste, fraud and abuse” does not appear controversial. Yet, too few people are asking how randomly eliminating every fifth employee achieves this goal. Details are boring; headlines rule.

As many of us know, tariffs generally lead to higher domestic prices and lower economic activity, yet many countries have used them under the theory that the pain to domestic consumers is a small price to pay to protect certain jobs or industries. Last time around (in 2018/2019), they were imposed on solar panels, washing machines, and steel and aluminum, with China as the main target. The goods affected were estimated at 1.5% of GDP, which is significant. The tariffs resulted in rising inflation, stagnating profits, and some job losses in the manufacturing sector. The agricultural sector was so hard hit by retaliatory tariffs that it only survived due to federal subsidies to the tune of $28 billion. Stocks underperformed bonds by 20% in the fourth quarter of 2018. Nevertheless, the full effects of the tariffs, much like the full effects of Brexit in the UK, were overshadowed by the COVID-19 pandemic.

This time around, the agenda appears more expansive and aggressive, which, if the past is any indicator, may suggest even greater underperformance to come. The announced tariffs are on a much larger scale, amounting to a combined total of 40% on China, 25% on Mexico and Canada, and threatened tariffs against the EU. Although we cannot see the future with any clarity, based on history, it seems reasonable to expect higher inflation, lower economic activity, and a higher risk of recession or economic slowdown. Perhaps worse than the tariffs themselves, however, is the back-and-forth and general incoherence in decision-making.

Our best guess is that the ultimate losers in this trade war will be energy, manufacturing, and cyclical industries such as autos and luxury goods. The global supply chain is very much integrated and has been for years, and this will result in some unforced errors. For example, although the US is fully energy independent, the nature of its refineries requires it to both import and export oil. Many US refineries were built to refine heavy, sour crude from places like Venezuela, while some of the oil we produce can’t be refined here. Winners are likely to include defensive stocks such as utilities and staples, short-term bonds, and purely domestic companies. Countries that do not impose retaliatory tariffs on the US are also likely to be winners. One definite winner that is emerging is Europe. Having received the message that, they will be responsible for their own defense, Germany has opened the investing spigot. The new engine of global growth will likely be led by the European defense and industrial sectors. Naturally, there will be multiplier effects and positive endowment effects.

We are in the very early days of an uncertain, incoherent, on-again-off-again trade war. More importantly, we appear to have moved away from a rules-based system to one driven by the whims of the president. We are seeing blatant human rights violations, attacks on the judiciary, and unheard-of assaults on our constitution. Investing by its nature involves risk-taking, and people’s propensity to take risks rises in stable environments with well-understood parameters. That is precisely the environment we are not in today. As a result, we expect investment dollars to remain on the sidelines. The US consumer has previously been willing to take risks and spend to the point of incurring debt. Given a more chaotic backdrop, we anticipate lower economic activity. Information is changing every day, and we’re doing our best to keep up with it. The magnitude of any weakness in the financial markets depends on how far the boundaries are pushed and how much the White House heeds the feedback loops. We aim to mitigate some of this risk through greater diversification in our sector and geographic exposures.

Since the fall, we have been slowly diversifying away from some of the strongest growth stocks that have driven client portfolios in the past couple of years, reallocating the portfolio with drivers that extend beyond the Magnificent 7 and other mega-cap stocks that have performed so well. We’re focusing our research on international stocks and domestic stocks with unique business models, which could potentially benefit from a rotation away from the mega-cap darlings.

Impact Update

We remain committed to advocating for strong environmental, social, and governance practices amid increasing restrictions on shareholder rights. This proxy season, companies like AbbVie and Apple have shown progress in transparency and lobbying disclosures, whereas Amazon has resisted accountability regarding labor rights. In response to the rollback of diversity, equity, and inclusion (DEI) initiatives, we are stressing to our companies that scaling back on diversity initiatives may expose them to legal risks under Title VII. Additionally, we are highlighting the economic risks posed by restrictive immigration policies with an ICCR investor statement. Read our Q1 2025 Impact Update to learn more.

Disclosures: Registration with the SEC should not be construed as an endorsement or an indicator of investment skill, acumen or experience. Investments in securities are not insured, protected or guaranteed and may result in loss of income and/or principal. This communication is distributed for informational purposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, products, or services. Nothing in this communication is intended to be or should be construed as individualized investment advice. All content is of a general nature and solely for educational, informational and illustrative purposes. This communication may include opinions and forward-looking statements. All statements other than statements of historical fact are opinions and/or forward-looking statements (including words such as “believe,” “estimate,” “anticipate,” “may,” “will,” “should,” and “expect”). Although we believe that the beliefs and expectations reflected in such forward-looking statements are reasonable, we can give no assurance that such beliefs and expectations will prove to be correct. Various factors could cause actual results or performance to differ materially from those discussed in such forward-looking statements. All expressions of opinion are subject to change. You are cautioned not to place undue reliance on these forward-looking statements. Any dated information is published as of its date only. Dated and forward-looking statements speak only as of the date on which they are made. We undertake no obligation to update publicly or revise any dated or forward-looking statements.