Market Update・2024 Q4 Review

It’s tough to make predictions, especially about the future.

YOGI BERRA

We hope you enjoyed a relaxing holiday season and New Year. As we kick off 2025, we’re at the time of year where everyone is making predictions on what the next twelve months will hold. Our industry is no exception, with market strategists at big banks assigning their year-end price targets for the S&P 500. While it’s always fun to make an educated guess, usually these targets become moving targets as the year evolves and the investment landscape changes. We won’t try to predict the ultimate finishing point for the market this year, but we will dust off our crystal ball on what we think will drive markets and the economy for 2025.

2024 Year-in-Review

We’ll start with a brief review of 2024, which was another banner year for the American stock market, as the S&P 500 rose by 25%. This comes on the heels of the S&P 500 rising by over 26% in 2023.[1] Similar to 2023, 2024’s returns were primarily driven by companies leading and/or benefiting from the artificial intelligence (AI) arms race. The “Magnificent 7” tech giants, plus Broadcom, accounted for 60% of the S&P 500 returns in 2024.[2]

Economically, inflation moderated across the globe with most central banks entering rate-cutting mode.[3] The US economy also saw five quarters in a row of real GDP growth averaging +3% year over year, solidly above the average of the past 15 years of +2.4% year over year.[4] In our opinion, lower inflation, above trend growth, combined with low unemployment provided a powerful tailwind for stocks. However, as we know, Wall Street is not Main Street, and voters made it clear in the voting booth that prices are still too high.

November’s election saw 80% of incumbents voted out, and populist movements gaining traction, culminating in Donald Trump winning the presidency.[5] Following the election, there was an immediate boost to investor sentiment and stocks rallied on the optimism that lower taxes, a lighter regulatory environment and more efficient government would offset any negative impacts of new policies towards trade and inflation.[6] As of this writing, the euphoric rally in stocks following the election has mostly reversed as, in our view, investors need clarity on the economic policies of the second Trump administration.

That all brings us to the present. Below are three things to pay attention to in 2025:

1. What is the 10-Year US Treasury yield trying to tell us?

   The Fed began an easing cycle at their September meeting and has cut rates by a full percentage point since then. During the same period, 10-year Treasury yields have risen by about 1% – an unusual occurrence and one that demands close attention.[7] In our opinion, the reason behind this could be concern over fiscal imbalances, deficits and/or a policy misstep from The Fed if they overestimate their progress on inflation and underestimate the strength of the economy. Admittedly, it’s still not entirely clear at this point. Regardless of the reason, we believe that a yield at or above 5% could cause some problems for stocks. Why yields are on the rise matters, though. If they’re rising because of stronger growth, that should be positive for stocks. If they’re rising due to higher inflation expectations, that would be a negative. Separately, this presents a nice opportunity for bond investors to lock in more attractive yields. We’ll be paying close attention to the treasury market and what it’s trying to tell us.

2. Good chance there will be a 10% correction in 2025

   When a stock index falls more than 10% from a recent high, it is often said to have entered “correction” territory.[8] Since 1928, the S&P 500 has averaged about one 10%+ correction per year (1 every 346 days). 2024 didn’t see a 10%+ correction and 2021 was the last year (other than 2024) to not see one.[9] Today, and as we’ve written about a lot over the past few years, the S&P 500 index remains top-heavy, with the Magnificent 7 stocks accounting for 33% of total market capitalization.[10] This can be a double-edged sword. While the Magnificent 7 stocks have lifted the broader market over the past two years, a downturn in these stocks could drag the index down even if the remaining 493 stocks are strong. In addition, in the chart above from Goldman Sachs, the market-cap weighted S&P 500 (where the Magnificent 7 equal 33% of the index) is considerably more expensive on a forward price to earnings basis than the equally-weighted version of the index.[11] Our takeaway is that 1) the broader market is vulnerable to a correction, which would be completely normal even if it doesn’t feel like it at the time and 2) a diversified portfolio with flexibility remains critical to risk management.

3. Does the bull market have room to run?

   The S&P 500 just registered back-to-back years of gains 20% or greater, something that has occurred just ten times since 1871. Only during the 1990’s bull market, and the Roaring Twenties, did the good times continue for another two years.[12] While we believe that a market correction is likely, does something more substantial lurk on the horizon? Traditionally speaking, back to back +20% return years for the S&P 500 have more often than not led to another positive year.[13] Taking a look at history, one can argue that this bull market can still have room to run. Since 1926, the median bull market has lasted 55 months, and we’re only 26 months in. The cumulative returns of this bull market are also well short of the historical median.[14] Given the strong state of the economy and corporate earnings, we believe the stock market will finish higher this year. The caveat is that it’s unlikely to be 20% higher and there will be more volatility than previous years. The key risk, in our opinion, is the Trump “disruptor” cabinet picks that aim to “break” something – whether its globalization, The IRS, FBI, Medicare, its “Deep State” boogeyman or something else. The possible guardrail is that the next administration is taking over a healthy economy with financial markets priced for perfection; they don’t want to be the ones who disrupt the current momentum of the economy and markets. 
   

The bottom line

Our bottom line is that we expect moderate equity returns this year as economic growth and valuations (especially for mega-caps) normalize. The US economy should remain resilient, supported by fiscal momentum and innovation in key sectors like AI and energy transformation. Market volatility, geopolitical tensions and fiscal and economic policy missteps must be monitored.

As always, we’d like to thank you, our clients, for your continued trust, partnership and support. We’re here to address any questions or concerns you may have. In the meantime, we wish you and your family a wonderful start to 2025.

[1] Y-Charts January 4, 2025

[2] Chart source: Dynasty Financial Partners January 13, 2025. Magnificent 7 stocks are: Apple, Microsoft, Google, Amazon, Nvidia, Meta and Tesla

[3] Dynasty Financial Partners January 13, 2025

[4] Natixis January 15, 2025

[5] Dynasty Financial Partners January 13, 2025

[6] Bespoke Investment Group December 28, 2024.

[7] Dynasty Financial Partners January 13, 2025

[8] https://www.schwab.com/learn/story/market-correction-what-does-it-mean January 24, 2022

[9] Bespoke Investment Group December 21, 2024

[10] Bespoke Investment Group December 28, 2024

[11] Chart source: Goldman Sachs January 13, 2025

[12] JP Morgan Asset Management January 1, 2025

[13] Natixis January 15, 2025

[14] Chart source: Morningstar and BlackRock as of 12/23/24. Stock market represented by the S&P 500 Index from 3/4/57 to 12/31/24 and IA SBBI U.S. Large Cap TR Index from 1/1/26 to 3/4/57. This illustration assumes reinvestment of dividends and capital gains January 14, 2025

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Past performance does not predict future results.

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