We’re one month into the new year, and while equity markets are already into positive territory, it feels like a repeat of last year’s strong gains will be challenging. Many indices are at, or near, all-time highs and valuations for many sectors have reached levels that are no longer ‘cheap’. In order to move higher, a lot will have to go perfectly. That makes for a risky setup and the potential for some big swings.
Of course, most expected the year to have an interesting start. The main cause of this stems from politics, but there are many other reasons, too. From risk around earnings to the path of interest rates, investors have a lot to worry about. Markets hate uncertainty and developments in Washington and Ottawa around tariffs and leadership are making it difficult to predict anything other than this: we are certain there will be uncertainty.
The age of Trump 2.0 is upon us, and with it a mixture of optimism and fear. Optimism stems from the belief he is very pro-business and that he expresses a desire to move fast and slash costly regulations. He also is well-known to see the level of the S&P 500 as his scorecard for success; this is very market-friendly.
Yet on the other hand, we know he isn’t afraid to make bold, aggressive statements that may not be fully fleshed out. The announcement to launch aggressive tariffs, both on so-called ‘friends’ (Mexico and Canada) and enemies (China), is dangerous and reckless. If these are enacted at any length, there will be a price to pay; they are inflationary and will harm consumers and industries globally.
The good news, to alleviate some political concerns for investors, is that earnings season has been positive. Expectations were high, but they have been exceeded. US banks kicked this off with a bang and reported strong numbers boosted by strong capital markets activity. This was quickly followed by impressive earnings from some of the largest technology companies, a welcome development given the stretched valuations.
The result of positive earnings in many sectors might be enough to kick off the long-awaited change of sector leadership. The semiconductor companies that dominated last year are under question as developments out of China are showing promising results to cut costs and potentially lower demand for high-end processing power. This has the ability to dramatically increase the pace of AI adoption, yet it may be at the expense of previous winners. It’s still early days, but we are in a very narrow market and when the leaders get questioned, other sectors need to step up and carry markets forward.
On the macro front, central banks globally continue to move towards normalizing conditions. The Bank of Canada executed another rate cut while the FOMC decided to pause at their January meeting. Inflation measures are cooling, and bond yields are responding by moving lower, a potential positive for risk assets and a welcome tailwind. The effects of tariffs are not yet fully appreciated, and this may impact the path forward on rate cuts.
Putting it all together, it’s about as clear as mud how the next few months will play out. Politics will dominate the headlines, yet the bond market will set the tone and dictate directions. Earnings growth is going to be critical to create positive momentum for markets and should remain the focus. Risk assets still have a chance to have a positive year, yet a lot of things need to go right for that to happen, and avoiding pitfalls like a trade war will be key.
One development in January that shouldn't be overlooked is gold hitting a record price. The fact that this is happening against a strong USD is a good case in point that some investors are thinking the risk/reward isn’t that great, and having some insurance might be a good idea. Given the backdrop, that might prove to be a wise decision.
— Greg Taylor, CFA, is the Chief Investment Officer of Purpose Investments
All data sourced from Bloomberg unless otherwise noted.
"By the numbers" displays the total returns for the month of January 2025.
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