For the second year in succession, global equities are on course for double-digit gains, dominated by US equities, in turn driven by mega-cap tech stocks and the unfolding artificial intelligence (AI) boom. Diversification has not paid off. A key question for investors is whether US exceptionalism can persist, with 2025 shaping up to be a pivotal year politically.
The change of leadership in the free world brings considerably more uncertainty than is usual, amplified by Donald Trump’s selections for senior roles in his administration, which point to an intent not merely to change, but to transform, the policy agenda. The appointment of anti-establishment loyalists and China hawks suggests that Trump wants full control to implement his disruptive agenda.
With this in mind, and the inevitable volatility that is to be expected, we set out our views for financial markets in the year ahead.
Despite Trump’s unpredictability, key elements of his domestic policy seem clear:
- Tax cuts, at least extending his 2017 tax cuts beyond their scheduled expiry at end 2025 and probably followed by additional cuts.
- Looser regulation, including the relaxation of environmental rules to allow more oil and gas drilling.
- Higher tariffs and protectionism, with a focus on China, but also encompassing Mexico, Canada and Europe.
- Reduced fiscal spending compared with the Democrats – the nomination of Scott Bessent for Treasury Secretary, who advocates spending cuts to reduce the fiscal deficit to 3% of GDP, introduces a moderating voice and calms the worst fears about the burgeoning federal deficit.
- Tighter immigration policy, including the threatened mass deportation of millions of illegal immigrants.
Foreign policy implications are less clear; a more isolationist policy is likely, but the constraints of realpolitik would suggest continuing support for Israel and Ukraine, albeit with a greater focus on negotiated settlements and, critically, support for NATO, but with intensified pressure on EU nations to share more fully in defence commitments.
The net result is likely to result in stronger growth in the US, boosted by tax cuts and deregulation, offset in part by higher tariffs/protectionism and lower immigration; continuing high fiscal deficits but with a focus on cost cutting and productivity improvements across the public sector, with Elon Musk to head up Trump’s Department of Government Efficiency (DOGE).
On the balance of probabilities, it improves prospects for corporate earnings, supports equities, requires continuing high treasury bond issuance, but risks stoking upward pressure on inflation, leading to a slower pace of rate cuts from the Federal Reserve and a stronger dollar.
Whereas the US economy is a clear beneficiary of Trump’s policies, China, Europe and Mexico are the obvious losers. While the tariffs threatened by Trump are most likely negotiating tactics, there are only downside risks to growth in these countries, and in Europe’s case a deal on tariffs might well be accompanied by commitments to materially higher defence spending.
This combination can only exacerbate the problems of high fiscal deficits in many member states and the EU’s structurally weak economy, not helped by the political leadership vacuum across Europe, especially in Germany and France.
The UK is less vulnerable to US tariffs but has chosen to follow the same high tax, big state, tight regulatory model as the EU, with almost certainly the same outcome of moribund growth. While Europe and the UK largely stagnate and China struggles with its well-known headwinds, US exceptionalism is alive and well.
Translating this into market return forecasts is complicated by the depth of uncertainty and the market moves ahead of and since the US presidential election. The ‘Trump trade’ has driven the US equity market higher while most markets in Europe and Asia have drifted lower in recent weeks and the dollar has been strong.
Inflation expectations have risen, bond yields have moved higher and market expectations for the Fed funds rate at the end of 2025 have moved up by a full one percentage point since mid-September.
The Trump trade might well have largely played out and investors are in wait-and-see mode as the year-end approaches.
It is important in this environment to avoid complacency. Risks abound – policy errors, the possibility of the US economy weakening while growth outside the US is under pressure, high government debt levels constraining fiscal flexibility, and a deterioration in geopolitical tension points. All of these are real and present dangers to markets.
Less likely, but by no means zero-risk possibilities, and potentially much more damaging would be the following three scenarios.
First, US/EU tariff negotiations collapse, the US withdraws support for Ukraine and NATO, and Putin succeeds in Ukraine, which undermines EU security and emboldens China.
Second, the French impasse over its budget, with the country virtually leaderless, triggers soaring bond yields and a debt crisis in the EU, a collapse in the euro and a steep recession in Europe.
Third, US interest rates stay high, Fed chair Jay Powell resigns under pressure from Trump and the dollar collapses, triggering carnage in the regional banking industry and global turmoil.
On the upside, there are outcomes which could build on the strong risk appetite currently evident in crypto currency markets and AI-driven stocks.
The first of these upside scenarios involves a market ‘melt up’ in a FOMO-driven AI fervour, as Trump delivers benign tariff deals and brokers settlements to the wars in Ukraine and the Middle East. Oil prices, inflation and interest rates fall sharply.
In another possible outcome, Iran’s regime is toppled, replaced by western-friendly leadership. Oil prices fall sharply, boosting the global economy.
Third, China’s fiscal stimulus packages bear fruit, the embattled property development industry emerges from its debt-fuelled collapse and the Chinese economy produces an unexpected surge in growth.
Although we attach a low probability to the outcomes above, both on the upside and downside, they serve to illustrate the depth of uncertainties ahead and the need for diversification in portfolios.
On balance, we believe the policy easing cycle has further to run and provides a strong foundation for valuations of equities, while the sell-off in bond markets in the past few weeks brings better value into fixed income markets.
We are cautiously constructive about markets in 2025 and see valuation opportunities in the US beyond its big tech stocks, and in markets outside the US, where valuations are generally more attractive and offset some of the economic headwinds faced. A repeat of the exceptional returns in equity markets, especially the US, through 2023 and 2024 is unlikely, but we expect equities to make further progress in this cycle, albeit amidst greater volatility.
Glyn Owen is an investment director at Momentum Global Investment Management. The views expressed above should not be taken as investment advice.