Global Market Review and Outlook

The fourth quarter was a perfect capstone to an eventful but productive 2024. U.S. equities led the way as they did all year, with the S&P 500 rising another 2.4% in the period. The “Trump trade” following the election certainly helped as markets rallied on expectations of deregulation, changes in international trade policies, and lower taxes. The AI-enabling tech giants also continued to dominate performance, extending the bifurcation of the U.S. markets. In fact, the Magnificent 7 (Alphabet, Apple, Amazon, Meta, Microsoft, Nvidia, and Tesla) accounted for more than 100% of the S&P 500’s fourth-quarter return, whereas U.S. mid- and small-cap equities advanced just 0.3% each (as measured by the S&P 400 Mid Cap index and the Russell 2000 index). The threat of slower-than-expected interest rate reductions capped returns.

Other areas of the market were mixed. International equities trailed U.S. markets in the fourth quarter as they did most of the year. Developed markets outside the U.S. and emerging markets both fell 8% in the period. The threat of future tariffs and the resulting uncertainty in global trade led to a more challenged international landscape. Fixed income faced considerable challenges. A slower pace of anticipated Fed rate cuts and prospects of pro-inflation fiscal policy initiatives caused the 10-year U.S. Treasury to surge from 3.8% to 4.6% by quarter-end. Consequently, bond valuations suffered and the Bloomberg US Aggregate Bond index fell 3%.

Source: Factset

On the surface, full year 2024 U.S. equity market returns look quite healthy (+25%) and the dominance of large-cap technology companies was the defining feature of the year’s market landscape. The Magnificent 7 stocks played a pivotal role in driving the overall performance of the S&P 500. Collectively, these seven companies contributed over 53% of the S&P 500’s total return for the year. These companies benefited from their competitive market positions, strong cash flows, and leadership in key technological trends such as artificial intelligence, cloud computing, and e-commerce.

If we look past the Magnificent 7 and examine the performance of the broader market, the findings, while still positive, are considerably less robust. Notably, only about 28% of the individual stocks within the S&P 500 managed to outperform the index itself, marking one of the narrowest breadths of market performance in nearly three decades. This means that while the index appeared to deliver strong returns, a substantial majority of stocks did not share in that success. This disparity highlights the concentration of performance within the index. Such concentration can create challenges for portfolios structured to mitigate risk by diversifying exposure across many holdings. For context, the Magnificent 7 now account for nearly 35% of the S&P 500. Sustained outperformance of these companies relative to the broader index is an increasingly formidable challenge. Relying on a limited number of companies for overall portfolio performance, while successful this year, can be a dangerous game.

Another way to cross-examine results is to look at the S&P 500 Equal Weight Index, which eliminates the disproportionate size impact from the largest tech companies. The equal-weight index posted a total return of 13%, a healthy advance, but well below the 25% return of the cap-weighted S&P 500.

Small- and midcap stocks also struggled to keep pace with their large-cap brethren. The Russell 2000 index, which represents small-cap stocks, returned a respectable 10% for the year, and similarly midcap stocks, as measured by the S&P MidCap 400, returned 11%. These gains, much like the equal-weighted return of 13%, are much more indicative of returns across the broader markets in the U.S. for 2024, with the S&P 500 return being the considerable outlier.

Looking ahead to 2025, further momentum across all markets will largely be a function of the health of the U.S. economy. With recession fears seemingly solidly in the rearview mirror, most economists are projecting GDP expansion in the range of 2.0% to 2.5%. This outlook is more optimistic than consensus forecasts from earlier in 2024, reflecting the economy’s demonstrated resilience and adaptability throughout the year.

Several key factors underpin this positive economic outlook. The labor market remains very healthy, with unemployment rates low and wage growth outpacing inflation. This should combine to bolster consumer spending, which is a critical driver of economic activity, accounting for nearly 70% of GDP. In addition, inflation is trending downwards, moving closer to the Federal Reserve’s 2% target. This may allow for a more accommodative monetary policy environment. Lower interest rates could spur an increase in business investment as companies look toward artificial intelligence, automation, and other technologies to increase productivity and maintain competitiveness. While uncertainties remain regarding potential policy changes and global economic conditions, the overall outlook for the U.S. economy in 2025 appears promising.

Given the economic backdrop, the pieces are in place for a potential third consecutive year of gains for U.S. equity markets in 2025, albeit with more moderate returns compared to the heady performances of 2023 and 2024. Corporate earnings growth will be critical. Current expectations call for 2025 earnings per share (EPS) growth of 14% for S&P 500 companies. To achieve this, companies will have to take advantage of the solid economic environment and realize productivity gains. The market is betting artificial intelligence technologies may begin to harvest efficiencies and fuel corporate earnings across multiple sectors. As companies increasingly invest in AI capabilities, the benefits may extend beyond the traditional tech giants, potentially leading to broader participation in equity markets.

Moreover, the anticipated changes in fiscal and monetary policy under the incoming administration are expected to create a more business-friendly environment. With lower taxes and reduced regulatory burdens, small-cap and midcap stocks in particular may benefit from increased access to capital and growth opportunities. After lagging large caps in recent years, smaller companies could begin to have their day in the sun.

We should note, however, that currently elevated equity valuations present a real risk for the U.S. equity market. The S&P 500’s forward price-to-earnings (P/E) ratio remains high at about 22x, indicating that stocks may already be pricing in the favorable environment. Any deviations from expected economic performance or corporate earnings caused by any number of potential pitfalls (a resurgence in inflation, geopolitical flare-ups, government debt, etc.) could lead to increased volatility and potential pullbacks in stock prices. Furthermore, policy uncertainty surrounding the new administration’s approach to tariffs and regulatory changes adds another layer of complexity to the market.

Moving outside the U.S., the outlook for international equities in 2025 is more nuanced with divergent trends across different regions and economies. While equity valuations are generally less demanding, Europe continues to grapple with energy concerns, particularly in light of geopolitical tensions, while Asia is facing moderating economic growth. The emerging policies of the new U.S. administration regarding international trade could also significantly impact global markets. Ultimately, we believe that there is value outside the U.S., but risks are elevated.

Last, the fixed-income market warrants attention as we move through 2025. If the Federal Reserve implements additional interest rate cuts throughout the year, the easing of monetary policy might create a more favorable backdrop for bond markets, particularly as yields remain attractive relative to historical averages. In particular, investment-grade corporate bonds are starting to look more appealing. With corporate balance sheets generally in good shape and default rates expected to remain low, these securities could provide a balance of yield and relative safety. Municipal bonds also continue to be favored. The tax-exempt status of municipal bonds, combined with generally strong fundamentals in many state and local governments, makes this area within fixed income attractive to those in search of after-tax yield.

As we move through 2025, we will as always continue to closely monitor developing trends and their potential impacts on your investment portfolio. We deeply appreciate the trust you place in us to manage your investments and guide your financial journey. As always, we encourage you to reach out if you have any questions or if you would like to discuss your specific investment strategy in more detail. Our door is always open.

Regards,

John, Cam, Lauren, and team