Global stock markets had a wide range of outcomes during the first quarter of 2025. The S & P 500 entered correction territory in the first quarter, dropping more than 10% from its mid-February high as investor sentiment weakened amid trade tensions and policy uncertainty. Stocks ended the quarter down nearly 5%. In contrast, many European and Asian markets rose sharply. Germany’s market (MSCI Germany Index) gained nearly 19% following a fiscal policy shift towards increased defense spending that boosted market confidence and pushed stocks higher. Chinese stocks (MSCI China Index) rose nearly 17%, seemingly driven by a few factors including government stimulus and advancements in AI (Artificial Intelligence). China’s meaningful weight in the emerging market index, lifted emerging markets 2.9% (MSCI Emerging Markets) in the period.
In the U.S., large-cap stocks (S & P 500) fell nearly 5%, outperforming small-cap (Russell 2000) which fell nearly 7%. Large-cap growth stocks, which had led the market for an extended period, finally lagged this quarter as investors rotated into value and foreign stocks amid economic uncertainty. Large-cap value stocks (Russell 1000 Value) gained nearly 3%, widely outperforming large-cap growth (Russell 1000 Growth) with a nearly 8% decline. The equal-weighted S & P 500 was slightly positive in the quarter, outperforming the cap-weighted index, signaling the decline of the Magnificent 7 which comprised one-third of the S & P 500 Index at the start of the year. The Bloomberg Magnificent 7 Index was down 16% in the quarter. More speculative assets such as Bitcoin also fell, while anxiety was good for gold which reached a new high.
Within Fixed Income, both credit and interest rate sensitive sectors posted gains in the quarter. The 10-year Treasury yield experienced significant volatility throughout the quarter, fluctuating amid shifting inflation expectations, Federal Reserve policy signals, and broader market uncertainty. Overall, 10-year Treasury rates ended up slightly lower, falling from 4.57% to 4.36%, and investment-grade core bonds (Bloomberg U.S. Aggregate Bond Index) rose just over 2% in the quarter. Credit-sensitive bonds such as high-yield held up well, gaining 1.5%. We believe the overall outlook for bonds in 2025 is positive, with higher current yields likely to result in calendar-year returns that exceed inflation.
Performance in the first quarter was a great reminder of the benefits of diversification. Unexpected losses in U.S. stocks (growth stocks) were offset by gains in U.S. large-cap value stocks, foreign stocks, investment grade bonds and alternative investments.
Heading into the year, we expressed caution that elevated stock market valuations, especially for U.S. technology companies, combined with policy uncertainty, could leave the market vulnerable to volatility. Indeed, this is what transpired over the first quarter of the year and the beginning of the second quarter.
After hitting new highs on February 19th, U.S. stocks suffered their first “correction” since 2023, when the S & P 500 declined a total of 10% through March 15. The narrative around U.S. stocks started to shift in late-January beginning with the release of DeepSeek, a Chinese built AI model that is seen as a direct threat to U.S. tech companies’ dominance of the AI industry. The selloff in U.S. stocks was exacerbated in early February amid tensions around trade, tariff, and policy uncertainty.
As we entered the second quarter, President Trump shocked investors on April 2nd on a day he declared “Liberation Day” with a comprehensive much higher than expected set of tariffs. We are going to lay out a timeline as a point of reference.
It was expected that President Trump would announce reciprocal tariffs on a group of 15-25 countries, with a 15-20% tariff rate being the estimate. The countries with the largest trade deficits in goods with the U.S. and with the highest tariffs and non-tariff barriers could potentially be the target. The “Dirty 15” as referred to by Treasury Secretary Bessent represented 15 of countries that account for most of the total goods trade with the U.S. Markets took some solace in the growing expectation that reciprocal tariffs might possibly be more targeted than some had expected. The idea was to attempt to balance global trade, which meant decreasing the U.S. trade deficit in goods and services and move production back home to the U.S. The consensus was that the tariffs would be more of a negotiating tool.
The details were more harsh than anticipated. All imports would be subject to at least a 10% tariff. Incremental tariffs were imposed on our biggest trade partners: China – 34%, Europe – 20%, India – 26%, Japan – 24%, South Korea – 25%, Taiwan – 32%, Vietnam – 46%. Combining the new tariffs with those that had already been announced moved the average effective tariff rate up to about 23%. In addition, the White House warned that tariffs would go up should countries retaliate. Canada and Mexico were not treated as bad. Trump also signed an executive order in which he formally eliminated the de minimis exemption, a loophole that allows retailers to send clothes and other goods worth less than $800 from China directly to American shoppers without paying tariffs. No additional sectoral tariffs were announced, but the White House reiterated that they were coming with a focus on chips, drugs and minerals.
After about 13 hours of being in effect, Trump decided to pause the higher reciprocal tariff for 90 days on all countries aside from China. The cumulative tariff on China was increased to 125%, effective immediately. The 10% blanket tariff remained in effect for everyone.
This marks the second dial-back by Trump on the tariff front in seven days. Over the weekend, Trump granted exemptions from the 125% tariff rate for smartphones, laptops, hard drives, flat screen displays, computer processors and chips from tariffs. This was viewed as a big win for the tech sector.
In response to Trump’s early April announcement, equity markets suffered sharp declines, with the S & P 500 Index suffering its second correction of the year, dropping roughly 10% in two days. European and Asian stock indexes also fell meaningfully. The U.S. dollar weakened against major currencies, and longer-term interest rates initially fell over fears of a slowdown but unexpectantly rose later in the week. This does suggest foreign selling was a factor.
Leading up to Liberation Day, economic conditions in the U.S. were reasonable and the overall economic backdrop was relatively stable. GDP was still expanding, albeit at a slower pace, reflecting a resilient economy even in the face of higher interest rates. Meanwhile, the labor market remained in decent shape, with unemployment at historically low levels. Furthermore, consumer spending remained steady and business confidence was solid.
A week into April, the tariff landscape weighed on sentiment adding to overall uncertainty. Through April 7, the S & P 500 dropped 17% from its February 19th high. Trump’s policies reflect a protectionist agenda aimed at protecting U.S. industry and raises the risk of significantly slower growth or even a recession. Underlying all the volatility is policy uncertainty. When tariffs are on, then off, then partially on with exceptions, the market’s expectations for economic growth and inflation need to adjust. Rapid changes in policy can mean rapid changes in yield.
Meanwhile, the Fed finds itself in a challenging position amid the current tariff policy. While the reciprocal tariffs are a threat to growth, the likelihood of tariff-induced inflation complicates the Fed’s ability to respond aggressively with rate cuts. (Rate cuts could further fuel inflation.) Fed Chair Powell has been vocal that the current economic data does not warrant rate cuts, and the Fed remains hesitant to ease too quickly. Should the labor market show further signs of deterioration, the Fed may be forced to act. But for now, it is walking a fine line between maintaining credibility and acknowledging mounting economic concerns.
Investors were optimistic about U.S. stocks coming into 2025. The U.S. markets were coming off another great year and an incoming administration was expected to be more business friendly with deregulation and corporate tax cuts on the agenda. But the narrative around U.S. stocks started to shift in late January beginning with the release of DeepSeek, a large language model out of China. DeepSeek had similar results as many current AI models but was reportedly trained at a fraction of the cost. It sent shares lower for many AI-related stocks and raised questions about the capital spend needed. Because these tech companies were highly valued and priced for perfection, any threat to their growth would hit their valuation multiples. This was one catalyst for the rotation out of U.S. large-cap growth stocks (Russell 1000 Growth), which lagged U.S. large cap value stocks (Russell 1000 Value) by a wide margin in the first quarter (negative 10% vs. positive 2.1%, respectively).
In early February, the trade war with Canada and Mexico commenced, serving as a trigger for some investors to pull back from U.S. stocks. For the past year, foreign investors have been heavily allocated to U.S. stocks as they were seen as the only game in town. But increasing uncertainty around tariffs, as well as fiscal stimulus in Europe following the German elections, produced positive sentiment around European equities for the first time in years. European equities gained 10.5% during the first quarter, their widest quarterly outperformance gap versus U.S. equities in 40 years. (See chart below.) A weaker U.S. dollar – down nearly 4% - during the quarter was a meaningful tailwind for foreign assets.
Fiscal stimulus from Germany is emerging as a key catalyst for European equities. After decades of adhering to strict fiscal discipline, Germany’s new government has signaled a shift toward expansionary policies this year to boost their stagnant economy and increase national security. A proposed 500 billion Euro infrastructure investment fund, alongside increased defense spending of similar size, marks the country’s largest fiscal package in decades. The stimulus is expected to boost Euro-area GDP growth by an estimated.5% to 1% in 2025, with ripple effects across the region.
Beyond Germany, broader European fiscal dynamics are also supportive. The prospect of a ceasefire in Ukraine could unlock reconstruction spending that could benefit construction, industrial and energy sectors. Additionally, the European central bank has adopted a more accommodative stance, cutting interest rates multiple times since mid-2024, with further reductions anticipated through mid-2025. Lower borrowing costs, combined with fiscal loosening, could stimulate economic activity and bolster equity markets.
The biggest risk to a continued resurgence in Europe does not come from inside the Eurozone, but from the U.S. The imposition of wide-ranging tariffs from the Trump administration is anticipated to negatively affect economic activity globally. Europe is particularly vulnerable to planned tariffs targeting the automobile sector, which comprises a full 7% of the bloc’s GDP. While the potential for any negotiated exemptions could provide a positive catalyst, there is a high degree uncertainty surrounding the final scope and impact of any tariff measures.
The recent 10% decline in the S & P 500 has led to market anxiety, but history suggests that corrections are a normal part of long-term investing and do not always signal a crisis. Since 1950, the market has experienced 34 corrections of this magnitude, yet only about a third have escalated into bear markets with losses exceeding 20%.
While today’s concerns around higher interest rates, government layoffs, and shifting trade policies add to uncertainty, we think the broader economic backdrop remains relatively stable. Employment data and consumer spending trends, while under pressure, have not yet deteriorated to levels that historically coincide with recessions. Additionally, corporate earnings estimates are holding up although forward estimates have declined a bit. Historically, stock market corrections recover within a few months, and investors who stay the course often benefit as markets rebound. While it is prudent to monitor risks, particularly if economic conditions worsen, we believe it is too early to classify this market downturn as a crisis. Long-term investors should maintain perspective, recognizing that market cycles of fear and relief are natural, and history has consistently rewarded patience and disciplined investing.
During periods of heightened volatility, we find it valuable not to overreact to the latest headline that could tempt investors to sell their equity exposure. In periods of stress, we believe the two-part decision (when to sell, when to jump back in) of market timing is a long-term losing proposition. During periods of equity declines, we are biased to be buyers instead of sellers. In the past, we have highlighted how detrimental missing the best days in the stock market can be on long term returns. We continue to favor a diversified global strategy which we use as a tool to augment returns and reduce volatility, case in point is the year-to-date returns where developed international stocks are widely outperforming U.S.
The first quarter was marked by volatility also in U.S. fixed income markets as investors reacted to shifting Federal Reserve expectations, persistent inflationary pressures, resilient economic data, and constantly changing tariff policies. Treasury yields remained elevated, with the 10-year yield holding above 4.2% as markets reassessed the timing and magnitude of potential Fed rate cuts. Credit markets performed well, supported by strong corporate earnings and stable fundamentals.
As for the Fed, they continue to balance inflation risks with signs of slowing growth. While early year expectations pointed to multiple rate cuts in 2025, persistent inflation in the services sector and wages led the market to scale back its rate cut projections. As of April, expectations have again changed because of tariffs slowing global growth. The market is projecting the potential for 3-4 rate cuts in the second half of the year.
Meanwhile, corporate bonds markets remain well-supported by solid earning growth, strong balance sheets and manageable refinancing needs. Investment-grade credit spreads have recently widened because of tariffs.
Looking ahead, the absolute yield on both investment grade and high yield bonds are attractive when compared to a few years ago. Investment grade bonds are currently yielding over 5% and high yield bonds are yielding close to 7%. We favor core bonds, high quality credit issues, floating rate bonds and long- term municipal bonds.
Alternatives can provide powerful long-term portfolio benefits and non-correlated returns to traditional stock and bond holdings and may improve risk-adjusted returns of balanced portfolios. Given the current volatility in public equity markets, alternative investments have delivered good relative returns with low volatility.
We favor private real estate investment allocations to multi-family, industrial and self-storage and selected grocery anchored centers. We expect equity like long term returns from these investments that can exhibit inflation protection and tax efficient income generation. We also favor private equity and credit opportunities. We will continue to add alternatives to our diversified balanced portfolios.
Tariffs and trade policy have injected a big dose of uncertainty into the financial markets, and we understand that such developments can be worrying. There are still many questions, including what potential retaliatory measures will come from countries hit with tariffs, whether the announced tariff levels will remain in place or possibly be lowered, and what their ultimate impact will be on the financial markets. Until there is more clarity, the volatile environment will likely continue.
Currently, it seems like stock prices are at least reflecting some of the bad news regarding tariffs. While many foreign and U.S. economies were in relatively good shape prior to the Liberation Day, Trump’s tariff announcement has led us to raise the probability of a recession. We are actively assessing a range of economic outcomes and their impact on the markets.
The current market environment is noisy, volatile and too tough to call with confidence. More than ever, we believe it’s important to stay disciplined and avoid making reactive portfolio shifts. This is a challenging environment, but one that reinforces the importance of diversification, patience, and a clear investment process.
We sincerely thank you for your confidence and trust in us. Please do not hesitate to reach out to us if you have any questions or wish to discuss how all this relates to your specific financial situation in more depth.