Market Compass video series

Hello, everyone, and welcome to the March Market Compass. We are now three months into 2025, and so far, there's been no shortage of headlines. Driving markets, trade policy uncertainty, and signs of an emerging soft patch in the US economy have taken some wind out of the market's sails.

US stocks are still about 10% higher from a year ago but have given back some gains, and volatility has increased. But along with volatility, diversification has also made a comeback, which is good news for those investors that own a diverse set of investments. In this Market Compass episode, we'll provide some perspective on the rotations or changes in market leadership that are underway. We'll discuss what is changing and why it matters for investors.

A key theme this year is the broadening of market leadership, with several rotations taking place at the sector level, investment style, and across geographies. But before we dive into these rotations, let's take a step back and consider the macroeconomic backdrop and how it is evolving. Over the past two years, we've had several quarters where the US economy grew more than 3%, faster than its long-term potential, which is thought to be about 2%, and faster than other major economies.

The US consumer has been the main driving force, aided by excess savings and solid income gains. Government spending has also boosted growth but led to high deficits. In the private sector, the launch of ChatGPT back in late 2022 fueled a wave of excitement around artificial intelligence. So plenty of tailwinds have helped drive two back-to-back years of more than 20% gains per year for US stocks.

Now, a lot of this support still remains, but the bar of expectations has risen, making it harder to exceed it, which is why markets have been mostly rangebound over the past six months. On the growth side, the US economy is likely going through a soft patch early in the year. Weather is one factor which likely depressed activity in parts of the country.

Additionally, trade policy uncertainty has negatively impacted consumer and investor sentiment. There is also an effort to constrain government spending in the US, while fiscal efforts are ramping up in other countries. Lastly, competition for artificial intelligence seems to be increasing, turning investors more skeptical about the pace of investment spending from megacap technology companies.

One of the most obvious rotations is happening within the different sectors of the S&P 500. A lot has been said and written about the Magnificent Seven group of companies. That is Apple, Microsoft, Amazon, Alphabet, Meta, NVIDIA, and Tesla. These companies comprise about one third of the S&P 500 weight and have contributed more than half of the index gains in the past two years.

But the group has lost some of its luster, with six of the seven companies lagging the S&P so far this year. Profits for the group remain strong but are slowing after two years of explosive growth, while profits for the S&P 493, the rest of the index, are accelerating after a two-year lull.

Reflecting these changes, we've seen the energy and health sectors emerge as new leaders. And more broadly, eight of the 11 sectors are outperforming the S&P, with only the growth sectors-- home services, technology, and consumer discretionary-- down for the year.

Given these sector rotations, performance for investment styles has also flipped. The gap between growth and value is starting to narrow, with value outperforming. Value-style investments trade at lower valuations, are less exposed to trade uncertainty and could benefit later in the year from pro-growth policies that are likely coming.

International stocks have lagged US stocks in eight of the past 10 years, with 2024 marking the largest underperformance since 1998. But the tide appears to be shifting, with international stocks off to a very strong start this year. Germany's economy has stagnated in recent years. However, following the German elections in February, the historically fiscally conservative country appears to be making a major pivot in its policy, proposing a massive stimulus program to boost defense and infrastructure spending.

These proposals, if approved, have the potential to improve the growth outlook for the country and the region. And it's not only Europe that is showing signs of life. Looking further east, low-cost artificial intelligence models in China and the government's changing stance towards the private sector have triggered a rally in technology stocks there, as well.

We are hesitant to pound the table that the year-to-date rally in international stocks is the start of a new trend. However, the brightening outlook and wide valuation gap with US equities argue that now is a good time for investors to review their international allocations. A 70% US, 30% international equity portfolio five years ago would have drifted to a 78%, 22% international today. Rebalancing that portfolio would mean selling some domestic stocks and buying international equities to return to the intended strategic allocation.

Policy uncertainty and trade worries are a known, unknown at this point and may keep volatility elevated in the months ahead. Given the rotations that are underway, we think that portfolio diversification will be critical for investors to navigate this year's twists and turns. Historically, stocks have experienced a correction, defined as a 10% or more decline from highs, about once a year. But any pullback doesn't have to turn into something worse.

The private sector continues to add jobs at a healthy pace. Corporate profits are rising, and the Fed is not considering rate hikes anytime soon. Investors can consider rebalancing strategies and dollar-cost averaging to take advantage of the wide price swings that we are seeing. We recommend connecting with your financial advisor to develop an investment strategy that is tailored to your long-term goals. Thank you for watching, and we'll see you right here next month.

Hello, everyone, and welcome to the February Market Compass. It has certainly been an eventful first couple months of the year. Despite some volatility and uncertainty, markets have performed well.

The S&P 500, for example, which is often considered a proxy for the broader US stock market, is up about 4% as of mid-February. Now, underneath the surface, we have seen a broadening of market leadership beyond mega-cap technology with areas such as financials, energy, industrials all showing leadership. We believe positive market returns reflect an economy that continues to remain resilient and show signs of momentum.

Now, the uncertainty around tariffs do remain an overhang and could be a source of volatility and even higher prices and lower growth. However, barring a recession or Federal Reserve rate hikes, neither of which we see ahead, we continue to see market pullbacks as opportunities to diversify, rebalance and add quality investments. In this Market Compass episode, we'll look at market performance thus far in 2025, and talk about some of the positive drivers of the economy, as well as some sources of uncertainty, namely tariffs and trade. So let's dive in.

First, let's look at US stock market performance thus far this year. Now, the S&P 500 is up about 4% as of February 13, and sector leadership has broadened. Areas such as financials and health, which do well when the US economy is growing, are outperforming, and the technology and consumer discretionary sectors have lagged thus far this year with some US mega-cap tech names underperforming. We believe this theme of diversification and broad leadership will continue in the year ahead.

Now in the bond market, Treasury yields have come down from their highs but remain elevated versus recent history. Given the uncertainty around inflation and tariffs, yields have moved higher, especially as markets have priced in future Federal Reserve interest rate cuts. Higher yields generally mean lower bond prices. But for savers, long-term investors, and those nearing retirement, elevated bond yields can be a good source of income. We continue to see opportunities in the investment grade bond market to extend duration and invest in higher quality bonds.

After two years of double digit returns in US stock markets, what's driving continued positive returns this year? Well, in our view, the fundamental backdrop remains supportive, which underpins this bull market. Economic growth has been resilient. The Fed's GDP Now Forecast, for example, points to a healthy 2.9% annualized economic growth rate for the first quarter of 2025, a good sign that momentum is continuing this year. And corporate earnings continue to deliver.

We see them growing by double digits this year as well, driven by contributions from both growth and value sectors, which should support stock market returns. And finally, the labor market has been an ongoing source of strength for the US economy. Now, keep in mind, when households feel confident in their jobs and the job market broadly, they're more inclined to consume.

The US unemployment rate remains at 4%, well-below the long-term average of 5.7%. And wage growth, while elevated at about 4%, continues to outpace the rate of inflation. This means employees are bringing home positive real wages, also good for households and consumers.

Now, perhaps the biggest source of uncertainty for markets and risk to economic growth is the tariff and trade policy. An escalation in tariffs on one or more economies not only would weigh on consumer and market sentiment, but also could increase prices and put downward pressure on economic growth. In fact, Fed research suggested that US tariffs during 2018 and 2019 contributed to an increase in inflation by 0.1% to 0.3% and reduced economic growth by 0.3% to 0.5%.

Now, the impact could be larger this time, as the scope of tariff actions is potentially broader. However, we do see some mitigating factors when it comes to tariffs and trade. We'll highlight three today.

First, tariffs may be viewed as more of a negotiation tactic than a shift in trade policy. We saw some signals of this when tariffs on Canada and Mexico were put on hold, after these countries agreed to enhanced border security. Now, while this approach may still cause uncertainty and headlines, the long-term economic impact is more contained.

Second, the US is a relatively insulated economy when it comes to trade. In fact, when you look globally at trade as a percentage of GDP, the US ranks towards the bottom, at 25% versus 64% for Canada and 74% for Mexico. Now this implies that tariffs may impact US trade partners more so than they hit the United States.

And third, while the US administration may begin with tariffs, keep in mind that pro-growth policies, including deregulation and lower taxes, as well as cost-cutting initiatives, are also on the agenda, likely coming in the weeks ahead. And these may be met with more favorable market sentiment.

Overall, after two years of solid gains in stock markets and low volatility during this period, we would expect to see moderation in returns and increased market volatility ahead. However, we continue to see positive economic growth and earnings growth. And while tariffs and trade remain uncertain, we don't see them pushing the economy into a downturn. And pro-growth policies may be coming next.

Thus, we believe investors can use market pullbacks as opportunities to diversify, rebalance and add quality investments at better prices across stock and bond markets. In our view, diversification will be a key theme in the year ahead. By spreading your portfolio across a variety of asset classes, you can help avoid too much exposure to those that may be underperforming, while potentially taking advantage of others that may be outperforming. These could include investments in both large cap and mid-cap stocks, investment grade bonds, and across growth and value sectors.

Finally, we recommend connecting with your financial advisor to develop an investment strategy that is tailored to your long-term goals. And with that, I thank you and we'll see you right here next month for the Market Compass.

Hello, and welcome to our first Market Compass episode of 2025. The year has started with optimism about the outlook for the economy and corporate profits, but also with some uncertainty about interest rates and inflation. 

One notable move impacting performance early on is the rise in bond yields. The 10-year Treasury yield briefly touched 4.8%, a 14-month high, before subsiding after the encouraging December inflation data. 

In this episode, we share our thoughts on what’s driving bond yields higher and how much further they can go. We’ll also touch on the implications for portfolios. 

First, why are yields rising?

A mixture of good and bad news is driving this recent rise. On the positive side, the economy has been performing better than expected, and 2024’s theme of economic resilience appears poised to continue.

Whether we’re looking at solid job growth, robust consumer spending or improving business sentiment, all suggest the U.S. economy continues to chug along, a bright spot relative to other major economies. As a result, the Federal Reserve, which cut interest rates by one percentage point last year, is feeling no urgency to cut them further. 

The bad news comes from some reemerging inflation worries. Progress on that front has slowed over the past six months. Looking at the breakdown of the increase in the 10-year Treasury yield since September, about a third of it is explained by the rise in inflation expectations. 

And finally, there is some uncertainty about potential policies from the new administration and elevated government debt at a time when unemployment is historically low, which is an unusual combination. 

Because of these three reasons — strong U.S. growth, lingering inflation pressures and policy uncertainty — investors have meaningfully reduced their expectations for interest rate cuts this year. The bond market is now pricing in fewer than two rate cuts by the end of 2025, down from 10 in September. This is a big adjustment, but the pendulum may have moved too far.

Next, how much higher can yields go?

While predicting interest rates is notoriously difficult, without the Fed going back to hiking rates, we believe yields may have a hard time moving sustainably higher from here or exceeding the prior cycle peak of almost 5% reached at the end of 2023. 

To that end, history provides some comfort. Yields have tended to peak around the end of Fed rate hikes in every cycle going back 40 years. 

This was the case in the mid-1990s, which was the last time the Fed achieved a soft landing. The economy never weakened substantially, and the Fed cut rates only three times before a prolonged pause. During this time, the 10-year yield rose about 1.5%, which is similar to the recent increase, but it never returned to its prior peak. 

We do not see rate hikes on the horizon; in fact, we expect at least one rate cut from the Fed this year, with two a reasonable base case. Navigating the last mile of inflation to reach the 2% target is proving to be bumpy, but the inflation trend remains lower. Highlighting this point, December’s CPI data were encouraging, with core inflation posting its first drop since July. 

The key takeaway is that the bond selloff might have gone too far. With the fed funds rate at 4.5%, which is still comfortably above the inflation rate of around 3%, Fed officials have room to cut at a slow pace.

And finally, what does this mean for your portfolio?

Higher rates have triggered some volatility for both stocks and bonds, but this is a familiar dynamic as we think about how markets have progressed over the last couple of years. 

Back in the summer of 2023, the 10-year Treasury yield briefly exceeded 4.5%, leading to a 10% pullback in the S&P 500. It crossed 4.5% again in April of last year, with stocks briefly declining 5%. In both cases, the bull market stayed intact, supported by solid fundamentals.

We think this will be the case this time as well. We see the economic expansion continuing, the labor market stabilizing at healthy levels, and earnings growth accelerating. While it is still early, the earnings season that kicked off with the banks in mid-January is sending a positive signal about the health of corporate America. For the fourth quarter, S&P 500 earnings are expected to increase 11%, which would be the strongest growth in three years. 

Additionally, the silver lining behind the volatility of December and early January is that it helped unwind some investor sentiment extremes. In October, twice as many investors surveyed anticipated market increases rather than declines, while the same ratio of bulls to bears is now slightly under one, indicating more balanced sentiment. 

Even though the Fed’s path and the new administration’s policies are somewhat uncertain, we think this reset in expectations paves the way for the next leg higher in stocks. 

On the fixed-income side, consider using the rally in yields as an opportunity to review your allocations to cash investments and possibly reposition to intermediate investment-grade bonds. These bonds now carry higher yields than those of CDs and money market funds. The best predictor of future returns of high-quality bonds tends to be their starting yields, which are currently near a 20-year high. 

To sum up, volatility might be elevated this year, but we recommend using any pullbacks as opportunities to deploy fresh capital and rebalance portfolios aligned with your risk tolerance and long-term goals. 

For more market insights and strategies to consider that may be appropriate for you, contact your Edward Jones financial advisor.

Hello, everyone, and welcome to the December Market Compass, the final compass video for 2024. In this episode, we'll highlight four of our key views from our outlook for 2025. Now, in 2024, the financial markets and economy held up remarkably well despite uncertainty around the economy, elevated interest rates, and the US presidential election. US economic growth remained above trend. Households continued to spend. Inflation rates moderated, and that S&P 500 gained more than 20% for the second consecutive year.

Now, as we look to 2025, we see much of this positive economic momentum continuing, although the pace of economic growth and US stock market gains may cool. We do expect US economic growth to moderate but remain positive, supported by a healthy consumer and resilient labor market. In our view, these solid fundamentals also underpin ongoing US stock market returns, albeit perhaps with more bouts of volatility and more modest gains ahead.

Looking ahead to 2025, we believe the US economy will continue to see positive economic momentum. Consumption in the US held up well in 2024, despite inflation rates above the Fed's target and elevated borrowing costs.

Now, we expect conditions for US households to improve somewhat in the year ahead as the Fed continues to cut rates, albeit perhaps just two or three times in 2025, and inflation continues to moderate and remain contained. Wage growth should also remain above inflation rates, which means consumers can continue to benefit from positive real wages.

So while economic growth could cool a bit in the first half of the year, perhaps to 1 and 1/2% to 2%, we do not expect a downturn or recession. And notably, we do see the potential for US GDP growth to reaccelerate toward the back half of 2025.

Two key reasons could drive this. First, the lower federal funds rate, even if marginally below current levels, should flow through to the real economy by the end of 2025, supporting household and corporate consumption. And second, proposed pro-growth policies, including deregulation and tax cuts, should start to take shape by year end and could also drive consumption as well as positive sentiment in financial markets.

Now, these may be offset by uncertainty around tariffs and trade wars, but we do see this risk contained more to specific industries and global peers. Now, it should not outweigh the broader pro-growth impulses we may see by year end 2025.

The second key view we'll highlight is that we believe the Fed will continue its rate cutting cycle in 2025 to gradually remove its restriction on the economy. With the Fed funds rate now around 4.5%, well above inflation rates of about 2.5%. we believe there is room to bring rates down to a less restrictive policy stance, with policy rates likely settling in the 3 and 1/2% to 4% range.

In general, a neutral Fed funds rate tends to be about 1% above inflation rates. So if we see inflation settling in the 2% to 3% range, this implies that Fed rate cuts should head towards 3.5%.

Keep in mind, though, that there are uncertainties that the Fed will have to navigate. Pro-growth policies and inflationary pressures could cause the Fed to cut rates less than expected, and any deterioration to growth or consumption driven by tariffs could bring the Fed to cut rates more than expected. Overall, though, 2025 is likely to bring a lower interest rate backdrop for consumers and corporations, which should support the ongoing economic expansion.

So after two years of 20%-plus gains in the S&P 500, how do we see 2025 playing out in stock markets? Well, we do expect more bouts of volatility but positive, albeit moderating, gains driven by earnings growth more so than valuation expansion. We also see the scope for market leadership to continue to broaden beyond US mega-cap technology stocks in 2025.

Now, of course, US mega-cap technology stocks have seen strong performance over the past two years, driven by enthusiasm around AI and robust profit growth. But looking ahead to 2025, we believe opportunities are emerging in the cyclical and value-style investments that could lead to broader leadership in the year ahead, and those are for a couple of key reasons.

First, profit growth is expected to be strong not only in mega-cap tech but in cyclical and value style stocks as well. Value-style stocks typically generate nearly 70% of their revenues domestically, versus around 50% for growth style stocks, and a higher share of revenue from domestic sources could make value stocks less sensitive to uncertainty around areas like trade policy.

Domestic stocks may also benefit from that deregulation and those pro-growth policies from the incoming administration. In our view, this creates a favorable backdrop for broad participation in equity markets over the coming year, potentially rewarding those with well-balanced portfolios.

Finally, the last view we'll highlight is that we see bonds outperforming cash in 2025. Now, in 2024, cash outperformed US investment grade bonds for the third time in the past four years, driven by higher relative yields. However, we do see this trend reversing in 2025 as cash yields have now fallen below bond yields after the Fed has cut interest rates. Many investors have gravitated towards cash and cash-like instruments over the last year, such as money market funds and CDs, as these investments have offered favorable yields.

However, while cash can provide important benefits, holding too much cash or cash-like investments can present risks, such as the potential for lower returns over the long term. For example, since 1981, cash has generated annualized returns of 4.1% compared with 6.8% for US investment-grade bonds. More broadly, 2025 may be a good time to start thinking about moving those cash-like investments to investment grade bonds, especially if you hold outsized cash positions.

Overall, 2025 is poised to continue to be a solid year for investors. We believe the economy continues to grow, the Fed continues to cut rates, and there are opportunities in both stocks and bonds. It's also a good time to connect with your financial advisor to help ensure your portfolios are positioned for success in the new year.

Now, for a full look at our 2025 annual outlook, head to edwardjones.com. Happy holidays, everyone. And we will see you right back here for the next Market Compass in 2025.