A New Phase of the Bull Market - How 2025 Might Differ from 2024
So far it has been a textbook first phase of a new bull market that started in earnest in the fourth quarter of 2023. At that time inflation was well on its way to manageable levels and the global economy was stabilizing. As the economy, inflation, and markets reached equilibrium, it kicked off an insatiable demand for stocks – fueled by the tremendous levels of cash on the sidelines, which often exists at the end of bear markets. Further fuel for this powerful bull market over the past two years has been stellar corporate profit growth, which has consistently beat expectations and continues to do so. All of this has been driven by the new business cycle and the power of Artificial Intelligence (AI) transforming the global economy. As is often the case, this new business cycle has heightened consumer and corporate confidence – and unleashed the “animal spirits” of future growth that we believe will give this bull market longevity. Keep in mind the average business cycle, if not derailed, lasts between 7-9 years. What can investors expect for 2025 and beyond after such a generous period? Let’s explore the possibilities!
Cruising Level – At Higher-Than-Normal Speed
The first 18-24 months of a new business cycle and bull market typically play out as we have witnessed since late 2023 for many of the reasons we describe above: economic stability, financial markets’ valuations, and investor optimism. However, the following phase – which we have likely now entered – brings a different, yet still constructive setup. At this point some of the “turbochargers” of the last two years have been exhausted. This would include the once significant cash levels, investor fear of missing out (FOMO), and, as we will discuss, the expectations around future Fed interest rate cuts. You may ask, “How can the bull market in equity markets charge on without these powerful components?” The answer lies almost solely in the continuation of strong corporate earnings fueled by the momentum of the new AI business cycle.
At this point in the cycle, we believe equity markets have reached “cruising” altitude – a level where stock prices will now rise on par with earnings growth. In the average business cycle corporate profits advance at a rate of 8-10% – which correlates to stock markets returns of a similar nature and to the long-term return of equity markets. However, this new business cycle has the benefits of AI tailwinds, which we believe will allow the global economy and corporate profits to exceed these average levels and be more in line with 12-16% growth. Eras of significant technological transformation are rare and have the profound effect of expanding productivity growth across the economy, driving profit margins and stock prices higher than normal. The most recent example of this phenomenon was the 1990’s supercycle bull market led by the evolution of the internet. We look forward to this elevated “cruising speed” and will be working diligently to have you exposed to the right sectors and stocks.
AI Enters Its Second Phase
For those who have doubted AI, it is very real, as witnessed by the exponential growth of use cases and results. The companies that have been early adopters of AI semiconductors are showing accelerating profits – Meta (the parent company of Facebook and Instagram) being a good example. In terms of revenue and profits, the lion’s share has been funneled to companies at the core of what makes AI work – the semiconductor manufacturers and their supply chain. However, as we enter the next phase of this exciting technology transformation, we believe that the demand for semis will remain robust, but will not likely have the trajectory of the initial demand and hyperscale of the past eighteen months. That baton of growth will be passed to those industries and companies that invested heavily in the chips. This will include technology companies as well as companies in the telecom, financial, industrial, material, and healthcare sectors. The utility industry may also experience above average growth as expansion of the global “grid” will be necessary to accommodate the higher levels of energy required to drive AI and electric vehicle (EV) markets. In 2025 and beyond we will stay focused on these themes, which we believe will be rewarding for us as shareholders.
Interest Rates, Market Volatility and Fixed Income Strategy
Global central banks including our own Federal Reserve were successful in winning the war on inflation without pushing our economy into recession. This tricky balance was accomplished by the Fed’s aggressive campaign of raising rates in 2022-23, followed by throttling back rates by 100 basis points (1%) in 2024. At this stage we believe the Fed has reached what is called the neutral interest rate – a level not too high to stifle growth and not too low to reignite inflation. It is for this reason that rates are likely to remain in a trading range. This may disappoint stock investors who believe that equity markets need lower rates to march higher, which may in turn create more volatility than we have seen recently – in the form of normal 8-12% market corrections. In preparation for these bumps along the way, we have recently paired back some of the big gains we have garnered to remain opportunistic within the volatility. In terms of this higher-for-longer rate environment we will strive to continue to add attractive yielding bonds to optimize your portfolio.
Risks to Our Bullish Case and Risk Mitigation
At this point in the business cycle, it is a great setup for stock investors. However, as we know all too well, these positive fundamentals can get derailed by known and unknown factors. Some of the bigger risks we see in 2025 is a reacceleration of inflation given the new administration’s pro-American-growth policy proposals, concerns regarding U.S. debt and credit quality, as well as continued escalation in geopolitical warfare. It is for these reasons that within our optimistic case, we stay focused on our Active Risk Management (ARM) process. These tools affect your allocation to overall stock exposure, a rotation to defensive sectors, and the use of carefully placed stop loss orders. In past business cycles, ARM has been effective in mitigating losses of a single stock, a sector, or the whole market, and we believe it is essential to long-term wealth management.
All of us wish you and your family a Happy and Prosperous New Year! If you have experienced any significant changes in your finances or have questions about your portfolio or wealth plan, please let us know.
If you have a family member, friend, or colleague who might benefit from our work, please feel free to share this update or have them contact us.
Thank you again for your continued vote of confidence.
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Disclosures: https://bit.ly/3TCc78H