Q1 2025 Market Commentary

Market Review

In summary, the first quarter of 2025 marked both a welcome return to the benefits of holding a diversified portfolio and an indication that the next few weeks and months are likely to be peppered with bouts of volatility and uncertainty.

Having reacted enthusiastically to the convincing victory for Donald Trump in the US Presidential election both bond and equity markets started the quarter well, though there was a notable difference from many of the previous quarters in that non-US markets, notably Europe performed much better than their US counterparts. There were also signs that value stocks were making a comeback versus their growth peers. This was particularly the case after the Chinese artificial intelligence (AI) firm, Deepseek, claimed to have developed a powerful alternative model to the likes of Chat GPT at a fraction of the cost. From the end of January, this pattern became more fully established and as the new President began to make wave after wave of pronouncements and make sweeping use of Executive Orders, the much-heralded “animal-instincts” which many commentators had forecast would predominate in the US seemed to turn tail and go into hiding.

Elsewhere, however, the speed with which Pres. Trump seemed to abandon the defence of Ukraine and offer an encouraging hand to Vladimir Putin jolted European leaders into taking action to increase their defence spending sharply. Even Germany was rattled into making changes to its fiscal constraints in order to allow future borrowing to increase enough to spend substantially more on defence. This, combined with the election of an apparently more pro-growth Chancellor, Friedrich Merz, and two cuts in interest rates by the European Central Bank (ECB) meant that business and investor sentiment in Europe began to rise.

By the end of the quarter, however, investors were becoming generally more cautious about the outlook for US growth and more concerned about the Trump Administration’s increasingly vocal support for the use of tariffs as a major economic lever. Nonetheless there were good returns over the period from European equities, UK equities and Emerging Market equities. US equities, particularly growth equities, underperformed. In bonds, the best areas were Global Index-Linked bonds, US Treasuries and Global Investment Grade. In commodities, the stand-out performer was gold, the price of which rose 19%.

Outlook

Perhaps it would have been naïve to expect otherwise but It’s been a whirlwind start to 2025, due in no small part to the reappearance on the global stage of Donald Trump. 

Domestically, his approach has been to unleash pressure on, or simply fire, those in positions of leadership across the Federal government, from the military to the IRS. This he is doing under the guise of making the government smaller and more accountable. The so-called Department of Government Efficiency, now under the sole charge of Elon Musk, (aka the “First Buddy”) has already instigated headline grabbing moves to eliminate spending across a range of government activities. 

It is hard to argue that the US government should not be smaller, with the Federal Deficit running at 6% of GDP and total Federal debt already at 100% of GDP and likely to rise sharply, particularly if, as expected President Trump extends elements of the 2017 Tax Cuts and Jobs Act beyond their 31 December 2025 expiry date. 

However, with interest payments now accounting for more than the US Defence budget and only 30% of the budget falling into the “discretionary spending” category, it is difficult to see how quickly this can be corrected without running the risk of impacting economic growth.

Source: JP Morgan Asset Management

Trump has long argued that part of the solution is to slap tariffs on goods coming into the US from overseas, starting with China, Mexico and Canada. Given the somewhat erratic and inconsistent nature of his comments, there has been extensive debate as to whether these are being used as a negotiating tactic or form genuine policy statements.

At the start of the year, we had a relatively constructive view on equity markets on the back of an expectation of reasonable global economic growth, a broadening of earnings growth, a robust jobs market in the US, gradually easing inflation and central banks being in an easing cycle. However, our biggest concern was the potential for a tit-for-tat tariff trade war.

The fact that the Trump administration was likely to introduce tariffs on certain countries, particularly Mexico, Canada and China, was well flagged. However, in the past few weeks, the noise surrounding these plans had become increasingly erratic and inconsistent, even contradictory and ahead of Trump's statement last Wednesday, it had become clearer that these tariffs may be more widespread than first indicated and that proved to be the case. Indeed, the level and extent of tariffs announced on April 2nd, along with the lack of clear economic thinking behind them and the subsequent announcement on Friday that China would retaliate with similar levels of tariffs has prompted a sharp setback in markets.

Investors do not like uncertainty and the Administration appears to be doing as much as possible to engender that. Investors fear that the tariffs will either increase inflation and / or cause a recession in the US. While both are possible outcomes, what makes it difficult to analyse the likelihood and extent of either is that the main driver of the policies appears to be political not economic, thus comments are often made with different audiences in mind. In short, the signal to noise ratio surrounding markets has fallen quite sharply.

On the tariff front, as we noted above, the political motivation for the policies makes the situation very hard to read. Do they remain at this level for some time, or will they be fully or partially removed as part of the political deal-making? If they remain at this level only in the short-term or indeed, they are relatively quickly negotiated down, then the damage to the global economy will be minimized. However, if they remain at these levels for a prolonged period, then the implications for global trade, supply chains and inflation will be more profound, as will the outlook for economic growth. While Donald Trump is very hard to read, we suspect that the equity market drawdown and political backlash will see him ‘make deals’, over the coming weeks and months, allowing him to claim that his approach has been successful, and we will start to see an easing situation in the second half of the year.

Commentary as of 8th April 2025.

Authors: 

Stephen Dowds, Chief Investment Officer

Charles Armitage, Investment Director

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