Insights From our Q4 2024 Economic and Market Review

Executive summary:

Geopolitical tensions and an uncertain inflation outlook rattled markets in the fourth quarter but U.S. stocks still managed to move higher
While other equities lagged and bonds remained flat, investors who held a balanced portfolio once again did well
As a new year and a new U.S. administration begins, it’s a good time to review client portfolios and prepare to navigate the road ahead
Global diversification will become even more important as U.S. large cap valuations and dominance increase

You’ve likely heard the saying “when the going gets tough, the tough get going.” A similar principle can apply to investing: “when the going gets tough, stay in the market.”

It’s not a stretch to say that the going was pretty tough in the fourth quarter of 2024. Financial markets were volatile, and for good reason. There was a U.S. presidential election, won by Republican candidate Donald Trump, followed by U.S. policy uncertainty. There was the brief but worrisome threat of a government shutdown. The U.S. Federal Reserve cut rates as expected but then said it will be more cautious about further reductions, rattling the markets.

Despite this, the S&P 500 Index managed to deliver strong returns over the quarter, supported mainly by the big tech names that have outperformed over the past few years. But unlike the third quarter when every asset class rose, U.S. large cap stocks were the only winners in the period.

And since we all are aware that past performance doesn’t necessarily indicate future performance, that means anything can happen in the upcoming quarter – especially with so much geopolitical uncertainty.

Your clients may be excited or worried about the changes a new administration may bring, and they may want to alter their portfolio to reflect their outlook. But now, more than ever, it’s crucial to hold a long-term perspective and ensure your clients are diversified. Let’s look at where we are and what could come next.

As the past few quarters have shown, just buying what has worked recently doesn’t necessarily give a better return than a diversified portfolio. The chart below, which we used to introduce our Q4 Economic and Market Review, shows that a traditional 60% equity/40% fixed income balanced portfolio has served clients well over the years.

Since 1980 there have only been seven years in which a diversified portfolio didn’t deliver a positive return, and only two of those years have had negative returns greater than 10%. The only years where a diversified portfolio did poorly were 2008 as the Great Recession began and 2022, the worst year for bonds in history. I think we can all agree they are outliers.

Why we believe global diversification matters

The continued dominance of those big U.S. technology names also shows the importance of diversification, especially global diversification. As you can see from the chart below, U.S. equity is commanding a bigger piece of world equities, with only FOUR names now representing one-fifth of the global stock market pie. Any single one of the big tech stocks – Apple, Nvidia, Amazon and Microsoft – have a higher market capitalization than Japan, the UK, France or Canada. To put this in perspective, those countries are members of the G-7 – the world’s most prominent developed economies. Apple has the same market capitalization as Japan, the world’s third-largest economy.

This U.S dominance and more importantly, concentration in only a handful of stocks, means that investors who aren’t globally diversified are vulnerable to any sudden or significant downturn in the outlook for technology stocks. A quick look back at what happened in 2022 may serve as a reminder.

From what I can see, the risk of a downturn isn’t zero. Let’s look at the price-to-earnings ratio shown at the bottom of the slide. It’s pretty evident how expensive those tech names are getting. In addition to cheaper valuations, non-U.S. stocks tend to provide larger dividends and serve as a currency hedge in the case of a weaker U.S. dollar. All I can say is: the rubber band is getting stretched.

What concerns me and I think should concern you is that when money starts to go out of the market, it’s most likely going to go out of those big technology names.

Bonds are back better!

Now let’s look at the flip side of equities: bonds. Fixed income has been trying hard to regain its reputation as a balanced portfolio’s kinder and gentler member after a dismal 2022.

Bonds were relatively flat in 2024. With the 10-year U.S. Treasury yield at 4.9% at the end of last year, the most likely direction for yields is to go down. While bonds have underperformed in recent months, as the new year goes on and the U.S. Federal Reserve likely lower rates in the back half of 2025, the environment for fixed income returns will likely improve. If so, bonds could provide the equity offset that has traditionally been their role. In the meantime, if interest rates do increase, as the chart below shows, the yield an investor receives serves as an offset to the price decline from the rising rates.

What comes next?

We are on the cusp of a new era in U.S. politics and the potential for change is great. The new administration of President Donald Trump has a majority in both Congress and the Senate and the likelihood of pushing through its main policies is strong. But which policies they will focus on are still to be determined and how they are implemented may lead to different consequences.

As we transition from politicking to policy-making, the ultimate outcomes on the four policy watchpoints below will be key drivers of the market’s direction in 2025 and their impact on such areas as inflation and corporate earnings.

The bottom line

It’s the start of a new year and a new U.S. administration so it’s a perfect time to review your clients’ portfolios.

Markets in 2025 will continue to focus on inflation, the labor market, earnings and overall valuation levels while digesting the outcomes of political policy decisions both in the U.S. and abroad. Maintaining a long-term perspective and broad diversification will be key to navigating the road ahead.

Disclosures

These views are subject to change at any time based upon market or other conditions and are current as of the date at the top of the page. The information, analysis, and opinions expressed herein are for general information only and are not intended to provide specific advice or recommendations for any individual or entity.

This material is not an offer, solicitation or recommendation to purchase any security.

Forecasting represents predictions of market prices and/or volume patterns utilizing varying analytical data. It is not representative of a projection of the stock market, or of any specific investment.

Nothing contained in this material is intended to constitute legal, tax, securities or investment advice, nor an opinion regarding the appropriateness of any investment. The general information contained in this publication should not be acted upon without obtaining specific legal, tax and investment advice from a licensed professional.

Please remember that all investments carry some level of risk, including the potential loss of principal invested. They do not typically grow at an even rate of return and may experience negative growth. As with any type of portfolio structuring, attempting to reduce risk and increase return could, at certain times, unintentionally reduce returns.

The information, analysis and opinions expressed herein are for general information only and are not intended to provide specific advice or recommendations for any individual entity.

Bloomberg U.S. Aggregate Bond Index: An index, with income reinvested, generally representative of intermediate-term government bonds, investment grade corporate debt securities, and mortgage-backed securities. (specifically: the Government/Corporate Bond Index, the Asset-Backed Securities Index, and the Mortgage-Backed Securities Index).

Russell 3000® Index: Measures the performance of the largest 3000 U.S. companies representing approximately 98% of the investable U.S. equity market.

MSCI EAFE (Europe, Australasia, Far East) Index: A free float-adjusted market capitalization index that is designed to measure the equity market performance of developed markets, excluding the U.S. and Canada.

The MSCI AC (All Country) World Index: Captures large and mid-cap representation across 23 Developed Markets (DM) and 24 Emerging Markets (EM) countries. With 2,791 constituents, the index covers approximately 85% of the global investable equity opportunity set.

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