2025 has arrived, what do you expect?
In recent weeks my conversations with clients, colleagues, family, and friends have run the gamut from pleased to resignation to fearful to despairing. What do we face in the year just begun? Will all societal and economic problems be promptly resolved? Are we at the brink of a new era of American prosperity? Or will the GOP have trouble following through on their multitude of campaign promises? Will markets continue to grow but with increased volatility? Or are we beginning a more ominous stage, one where the worst fears of the doomers are realized?
Wherever you fall on the spectrum of optimism to fearfulness, you probably look at the other side as deluded and misinformed. Our expectations are often clouded by fears and biases. Expectations are the crux of the matter during this transformative era. What we expect will happen has a great impact on how we behave, what decisions we make, and how we invest. Let’s think about expectations.
Transformational era
It is understandable if you feel disoriented and confused by all that has been happening these past few years. We are in a period of profound transition and change. The economy and society are undergoing fundamental change as we move from a neocon/neoliberal, globalization, free trade/NAFTA/Eurozone/ASEAN philosophy to something more insular driven by nationalism, populism, and protectionism, with industrial policy focused on the heartland. Overlayed on top of this is the influence of the Information Age. Some describe that we are in process of moving from the fourth industrial revolution (digital) into the fifth (human/machine/AI coordination).
Society seems to be in a time of swinging away from respect for traditional institutions, science, and expertise, while at the same time many experience a sense of nostalgia for a supposedly simpler time whether agrarian and rural or 1950s suburban. Unease and even fear and dread for the future are common. Will the years ahead see the steady dismantling of the power of the state? Are we in a process of devolution that will lead to unintended risks like the Great Financial Crisis? Or will we continue to implement lessons learned? And might this be a time when we witness the genius of the original Framers?
These are heavy considerations indeed. These times are likely to bring many winners and losers, opportunities and risks. But the best investors will be those that can check their emotions and focus on outcomes, whatever they might be.
What you expect, not what you fear…
Fear is a powerful motivator. We’ve just come through an election cycle where politicians on each side appealed to core fears of their constituents. Each side spoke of the “existential threat” posed by their opponents. If the other side wins, they said, we face a grave risk to democracy and to our very way of life. Voters on each side believed and trusted their chosen leader.
Now for the GOP, it’s on to the messy job of governing. There’s no more time for incessant airing of grievances. Now is their time to step up and be effective. Can they? We’re still a couple of weeks away from Inauguration Day and already we’ve seen fights over cabinet appointees, government funding, and House leadership.
As an observer of all of this, take care that you don’t let your politics drive your investment decisions. Both sides seem prone to this mistake. I often suspect I can tell which media someone is consuming by hearing of their fears and related decision making. Last year, right-wing investors were fed a nonstop ration of how terrible was the Biden economy. This caused many to underinvest in the stock market. The economy remained strong and the stock market had a terrific year, meaning these investors missed out. This year, will liberals make the same mistake? Will they let their fears of Trump 2.0 cause them to miss a potentially strong 2025?
Hope is not a better alternative viewpoint
If fearfulness is not your perspective, simply hoping for a better future is not a workable alternative. Expectations based in hope are no more likely to happen than those based in fear. I can understand this viewpoint: my own bias is towards optimism. It can be easy for a hopeful investor to assume it will all work out, because given the historical long-term upward trend of markets, this has proven generally to be true.
The hopeful perspective has benefited passive investors over many years mainly because we have been in a structural (meaning long-term) bull market. But this approach can disappoint if trends begin to fall for an extended period like 2007 – 2009 or turn flat like in the 1970s. Blind hope is an advisable strategy only if you are either very young or historically lucky.
What is likely to happen?
Instead of emotions, it’s probably best to think in terms of probability. What are the likely outcomes? What will be the pace of change, magnitude, acceptability of outcomes?
Despite popular narratives, the economy is still strong, but cooling. Last year imminent recession was predicted. But the economy proved resilient. Corporate earnings were strong, employment was durable, and inflation came down. The stock market reflected this and most stocks grew nicely. At the same time, there were enough signs of strain to cause worry. Employment has begun to soften and become more complicated. Interest rates, especially long-term rates, have remained stubbornly elevated. Inflation has come down a lot since 2022 but is having trouble falling all the way to the Fed’s 2% target. Meanwhile the policies of the new administration in the White House are potentially inflationary. Finally, markets were narrow during 2024, sometimes a sign of late stages of a bull market rally.
What might all of this mean? A likely read: continued momentum in the economy and markets may mean we have a year of strong investment returns. But the many economic and market warnings, plus the launch of Trump 2.0, may well mean that gains could come with a heavy dose of volatility. In other words, the market may be higher at this time next year, but it could be a helluva wild ride to get there. And after that?
Time for a downturn?
Don’t read too much into short-term cyclical swings. A mistake that investors, especially fearful ones, can easily commit is mistaking a short-term cyclical downturn for a change in long-term direction of the markets. March – April of last year were a short correction during a booming year. 2007 was the beginning of the Great Financial Crisis – a system-level risk.
But how to tell the difference? Well, pay attention to numbers and not to headlines. Clickbait about disaster can often be misleading (remember the hype about Y2K?). And mistaken assessments can lead to poor outcomes.
Instead, we can try to make sense of metrics and trends. Wrestle with difficult questions, not simplified explanations. What might we learn from long-term interest rates? What might make us question the durability of the financial system? What might happen if inflation rises and stays higher? What can we imply about the impact or efficacy of the Fed? These are hard questions but will likely tell us much more than the news media’s documentation of outrages.
Bear market
With any luck in the near term the economy and markets should stay strong. I’m thinking that many of the policies of the new administration may be helpful to the overall economy. Corporations continue to adapt, compete, and adjust in order to grow. The market may broaden out as under performing stocks and sectors revert to their mean.
But at some point, maybe not this year but sometime not too far off, we could experience a bear market that correctly anticipates an economic downturn. Whether this will be a garden variety business cycle event or something more ominous, only time will tell. Here are some thoughts to keep in mind to prepare:
Don’t concentrate into the riskiest assets during good times, because you could increase your risk just before markets turn. Make adjustments to take some money off the table during boom times: sell high. I’m not saying sell everything and wait for the market to crash. Rather, regular rebalancing can take money out of growing areas and redeploy it elsewhere in the portfolio. Or consider notching down your risk from say a Growth allocation model to Moderate Growth. Take steps but don’t overreact.
Bear markets are a time to buy in to the markets, not sell in panic. This is easier said than done. Remember that during a bear market, all news is bad, your worst fears appear to be coming true, and faith in the system of investing becomes sorely tested. Think of it this way: if investors are suspicious even pessimistic now, after two boom years in the markets, how badly might they react when markets truly turn ugly?
Bear markets end. The long-term structural trend of markets has been upward for decades. Whatever befalls stocks in the next couple of years, any bear market we experience will likely be followed by a period of renewal. You want to be appropriately positioned before this renewal begins because you’re unlikely to catch it once it begins to rise. This means you’ll have to be already in the market or steadily moving in during the period when all the news is terrible and trust in the system is low. Will you?
Conclusion
To hazard a guess: we should benefit from positive momentum, but volatility could become distracting, and a cyclical bear market probably isn’t too far off. Remember that a downturn doesn’t mean disaster; the recent bull market didn’t resolve everything, so why would you expect a bear market to equal ruin? Ultimately the markets will follow corporate earnings, which are likely to remain relatively strong. If so, this would demonstrate overall economic durability. But if the volatility is just too much for you, then it’s time to adjust to a less growth-oriented portfolio. Long-term investors are best suited when their risk profile is a match for their allocation approach.
Securities and advisory services offered through LPL Financial, a registered investment advisor. Member FINRA/SIPC.
This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal.
There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.
The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.