2025 Outlook Letter
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Business Update
As we step into 2025, I’m excited to share some key updates and reflect on the progress we made in 2024:
Welcoming Chris Stevenson, CFA. In 4Q24, Chris Stevenson joined Evolve Investing as a Senior Advisor. After a long and thoughtful search, I’m thrilled to have found a partner who shares deeply aligned values in serving our clients and brings extensive buy-side investment experience across equities, credit, derivatives, and alternative assets. I’m excited about the valuable insights and long-term opportunities this partnership will create for our firm and, most importantly, for our clients.
Continued Growth. Our assets under management increased by 85% compared to the end of 2023. We also began working with eight new households on an ongoing basis, providing both Investment Management and Financial Planning services.
Media Contributions. This year, I was honored to contribute insights to Marketwatch, Investors Business Daily, and Investopedia on topics ranging from Bitcoin’s impact on portfolio volatility to upcoming tax law changes and setting financial resolutions for the new year.
Professional Development. I’ve been immersed in Yale School of Management’s Wealth Management Theory & Practice program, which is focused on the unique challenges faced by high-net-worth households—including charitable giving, asset protection, estate planning, and wealth transfer. Later this year, I will sit for the Certified Private Wealth Advisor® (CPWA) certification exam.
As always, I remain focused on helping you grow and protect your wealth, manage cash flow and liquidity, and navigate your most important financial decisions. Please don’t hesitate to reach out directly to discuss your investments, financial plan, or any questions you may have.
Reflections on 2024
At the time I published my last annual outlook, my portfolio positioning reflected my cautious view on equities due to their optimistic pricing, and a preference for fixed income securities. While I had adjusted some portfolios to an average baseline level of risk following the Fed’s dovish pivot, I remained focused on maintaining stability amidst uncertain market conditions. A number of factors influenced my outlook at that time:
High inflation was the dominant market concern, prompting aggressive interest rate hikes by central banks globally to curb rising prices.
Markets were focused on a potential recession as the impact of rapid interest rate increases began to affect economic growth and corporate earnings.
The investment landscape was characterized by risk aversion and a flight to safety as investors sought to protect their capital in an environment of heightened uncertainty.
However, market performance in 2024 generally exceeded my expectations, as well as those of most economists and analysts. The primary drivers of this outperformance were stronger-than-anticipated economic growth, especially the U.S. economy; easing inflation, at a faster clip than many economists predicted; and robust corporate earnings that exceeded analyst expectations, driven in part by profit margin expansion among mega-cap tech companies.
Outlook for 2025
As we enter 2025, certain risks have subsided, and new risks have emerged. Inflation has abated, prompting central banks to shift towards monetary easing. Economic growth, particularly in the U.S., has been surprisingly robust, driven by resilient consumer spending. However, the re-election of Donald Trump has introduced significant uncertainty regarding the direction of US trade policy, fiscal spending, and regulatory changes, which have global implications.
While the potential for increased tariffs under the Trump administration has raised concerns, I believe that these tariff risks and their potential impact on markets are overblown. In my view these extreme tariff threats are negotiation tactics that are unlikely to become concrete policies. My sense is that markets have already largely priced in the expectation of tariffs on Chinese goods, suggesting limited future impact on stock prices. Additionally, I highlight the possibility that the new administration’s focus on tax cuts and deregulation could offset any negative economic impacts from tariffs.
Generally, I expect the US economy to maintain its robust growth trajectory in 2025. Despite a recent rise in unemployment, the labor market remains healthy due to increased labor force participation spurred by immigration, which has offset job losses. Consumer spending, a major driver of economic expansion, is expected to remain strong, supported by consistent job growth, a stable unemployment rate, and increasing real wage growth.
U.S. Unemployment Rate
At the time of my last outlook letter, traders were pricing in six to seven quarter-point rate cuts for 2024 based on 30-Day Fed Funds futures pricing data. However, the Federal Reserve's rate cuts were more modest than anticipated. The Fed began lowering rates in September 2024, reducing the federal funds rate by a total of 75 basis points by November 4, well below the initially lofty expectations.
Target Rate Probabilities for December 2025 Fed Meeting
Source: https://www.cmegroup.com/markets/interest-rates/cme-fedwatch-tool.html
Last quarter, I highlighted a potential challenging market scenario where excessive rate cuts to support the labor market could drive inflation higher. This concern has since diminished, as the Fed has adopted a more measured approach, balancing the need to support economic growth with managing inflation risks linked to government policies and a strong U.S. economy. Most analysts now expect the Fed to cut interest rates by an additional 75 basis points in 2025, likely concluding the easing cycle by mid-year.
Given this economic and policy backdrop, I foresee a supportive environment for US equities, with cyclical sectors likely outperforming. While current equity valuations are generally considered high, with the S&P 500 is trading at a significant premium to its historical average, solid earnings growth will be a key driver of equity market performance in 2025. Analysts generally anticipate robust earnings growth in 2025, with projections for the S&P 500 ranging from 9% to 15%.
S&P 500 Price to Earnings Ratio and Forward Price to Earnings Ratio
To dig into valuations further, I highlight some of the commentary from one of my favorite investors, Howard Marks of Oaktree Capital. In his recent quarterly letter, Marks explored the connection between valuations and long-term returns. A J.P. Morgan Asset Management analysis covering 1988–2014 illustrates that when the P/E ratio reaches today’s level of 23-24x, subsequent ten-year annualized returns have ranged from +2% to -2%. Marks cautions that while valuations could gradually normalize through stagnant stock prices as earnings grow, the possibility of a faster, sharper correction, like those seen in 1973-74 or 2000-02, should not be dismissed.
That said, Marks also acknowledges that while the S&P 500’s P/E is undoubtedly elevated, it isn’t unprecedented, and the "Magnificent Seven" companies may justify their premium valuations given their exceptional competitive advantages. He also points out that the current market lacks the reckless exuberance of “no price too high” thinking that defined past bubbles. As investors, it’s important to stay mindful of the risks associated with lofty valuations while also recognizing that today’s elevated market remains grounded in economic fundamentals.
How I’m Positioning
In 2024 the impressive earnings growth of megacap technology companies such as Apple, Amazon, and Microsoft largely fueled the stock market rally. Given the solid economic backdrop, I anticipate earnings growth to become more broad-based in 2025 vs. 2024. Accordingly, for many portfolios, I’ve broadened exposure beyond US mega-cap stocks, looking for opportunities in small- and mid-caps.
Magnificent Seven (TSLA, NVDA, META, AAPL, MSFT, GOOGL, AMZN) vs. S&P 493
For income-oriented investors, I favor certain segments of the fixed income market, including higher-quality and crossover corporate bonds and short-dated governments and corporates. In BB-rated bonds in particular, the spread between the effective yield and the earnings yield on the S&P 500 remains attractive.
BB-Rated Bond Effective Yield vs. S&P 500 Earnings Yield
Generally, I am feeling more bullish relative to a year ago, while also acknowledging the new set of risks facing the markets. Concerns about the Fed overshooting on rate cuts have eased, as they’ve taken a measured approach, and geopolitical risks like potential tariffs under a Trump administration appear less concerning given likely offsets from tax cuts or deregulation. My focus remains on balancing risk and reward and tailoring strategies to meet my clients’ unique goals in this evolving environment.
Please reach out anytime to discuss any of the above themes and how your portfolio is positioned. And as always, thank you for your continued support and confidence in Evolve Investing.
Best,
Peter Hughes, CFA, CEPA®