2025 - the year of navigating the unpredictable
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Article Type
Insights
Topics
Multi-Asset, Long-Term Outlook, Opinion
Published
January 13, 2025
Read time
4 mins
Author
Gareth Gettinby, PhD
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Rising geopolitical uncertainty and shifting government policy agendas, coupled with potential trade wars, are adding complexity to the economic outlook. President-elect Trump, with his tendency for being unpredictable, will significantly influence many of these factors. His policies of deregulation, tariffs, and fiscal measures should bolster US exceptionalism, potentially at the expense of the rest of the world.

 

The macroeconomic outlook for the US indicates a moderation in growth from current levels, with inflationary pressures largely under control. However, there are signs that inflation is rising even before any Trump policies are implemented; forward-looking indicators of housing inflation have begun to increase, and immigration flows into the US have significantly slowed. With the return of inflationary pressures and a resilient US economy, the Federal Reserve could remain on hold for a prolonged period through 2025.

 

Europe’s fragile economy is facing structural headwinds and significant threats from potential US-imposed tariffs. The European Central Bank (ECB), therefore, could cut rates by more than expected due to sub-target inflation and growth concerns in some European countries. Germany remains the ‘sick man’ of Europe, with its export-driven economy among the most exposed to US tariffs. Manufacturing – particularly the auto sector - is currently under pressure from sluggish demand and competition from Asia. Meanwhile, France is struggling with political risks and fiscal instability. The bright spots in Europe are the peripheral countries, particularly Ireland, Spain, Portugal and Greece. These areas will benefit from the ECB loosening policy and are forecasted to outperform many of their European peers.

 

In the UK, underlying growth remains modest and inflation stickiness continues to persist. The UK should be reasonably immune to any tariff risks, particularly as exports to the US are dominated by services. However, the latest budget introduces uncertainty. It will deliver a near-term growth boost through fiscal easing, but businesses will need to absorb significantly higher labour costs due to a 6.7% increase in the national living wage and a rise in national insurance contributions. Consequently, businesses may reduce employment as they face diminished pricing power and are unable to pass on these costs. All of this presents a risk to growth and adds uncertainty regarding the extent to which the Bank of England (BoE) will cut rates.

 

Where does this leave investors for the year ahead? Global markets may face challenges in delivering outsized returns in 2025 due to frothy valuations in some sectors, particularly in the US. The US stands out as a prime choice for equities, given Trump’s pro-business stance, deregulation, and lower corporate taxes. US large-cap companies, however, are saddled with expensive valuations, and therefore there may be an opportunity for investors to find better options in segments beyond the narrow stock leadership that has driven US markets recently. UK equities could perform relatively well in 2025, given the UK is a defensive market, reasonably immune to trade wars, and market valuations are not excessive.

 

Government bonds are expected to remain volatile in the coming year, given they are ultimately dependent on the Fed. Investors, therefore, need to be nimble and attentive to changes in the monetary, fiscal and macroeconomic environment. In the UK, interest rates appear too high for the current economic outlook, and any downturn in the labour market, along with contained inflation, would allow the BoE to cut more aggressively, which would be positive for gilts.

 

Meanwhile, corporate bond markets are currently in a ‘goldilocks’ environment, with strong fundamentals, limited macroeconomic headwinds and attractive yield levels. However, while investors may decide to rotate cash from money markets into corporate bonds, these assets are priced for ‘perfection’ and therefore the margin for error remains small.

 

In summary, there is much for investors to contend with in 2025. Central banks will continue to reduce rates at various speeds and magnitudes, while geopolitical risks, trade wars and policy changes remain potential threats. All of these factors can significantly impact the direction of asset classes through 2025. Good hunting!

 

Disclosures

Author

Gareth Gettinby
Investment Manager

Gareth Gettinby, PhD, is an investment manager within the multi-asset group. He is co-manager of the Sustainable Diversified Growth Fund.

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