Thanksgiving Update
As we celebrate Thanksgiving, it is a time to reflect on the economic progress that has been made and express gratitude for the resilience of healthy markets. The moderation of inflation, steady growth, and promising outlook for both equities and fixed income serve as reminders of the strength and adaptability of the economy. While uncertainties remain, the foundations for a stable and prosperous future are in place, giving us much to be thankful for this season.
The U.S. economy has demonstrated remarkable progress toward achieving a "soft landing," where economic growth slows without tipping into recession. As of now, U.S. real growth has settled at a healthy 2.7% year-over-year rate, and inflation has moderated to 2.7%. When excluding housing, inflation drops further to 2.1%, inching closer to the Federal Reserve's long-term target of 2%. While inflation remains slightly above this goal, the Federal Reserve has found it appropriate to begin reducing policy rates, signaling a more stable economic environment.
The stock market has experienced strong performance, with U.S. large cap equities up more than 21% this year following a 26% rise in 2023. Despite elevated price-to-earnings ratios of 27, above the historical average of 21, earnings growth projections suggest continued upside potential. Analysts predict robust sales growth of 6% annually over the next two years, driven by productivity gains from artificial intelligence, declining interest rates, and favorable tax policies. Earnings are forecasted to grow 14% next year and 13% in 2026, making current valuations appear more reasonable.
Meanwhile, U.S. small cap stocks have also posted solid gains, supported by strong economic growth and declining interest rates. With nearly half of small cap debt tied to floating rates, lower interest rates are expected to improve margins and boost earnings. Additionally, re-shoring efforts under the incoming administration could further support small cap performance, making them an attractive investment opportunity.
Balanced portfolios of 60% equities and 40% bonds have delivered impressive annual returns of 12% in 2024, outperforming the long-term average of 8%. However, we anticipate more moderate gains going forward. While equities are likely to continue leading performance, the potential for inflationary pressures highlights the importance of diversification. High-yield bonds remain attractive, offering yields above 7%, while inflation-linked bonds provide prudent protection against rising prices.
As we approach 2025, "Buy America" stands out as a key tactical call. U.S. equities are expected to benefit from a more favorable economic environment and healthier corporate profits compared to other regions. Policies such as higher tariffs and reduced regulation are anticipated to disproportionately impact non-U.S. markets, while U.S. tax cuts and economic resilience offer a relative advantage.
The road ahead is not without challenges, but with careful planning and a focus on diversification, there are opportunities to navigate the complexities of the economy in 2025. Let this Thanksgiving remind us of the importance of resilience, optimism, and gratitude for a healthy and dynamic market environment.
Sources: LSA Portfolio Analytics, American Association for Individual Investors (AAII), Associated Press, Barclays Capital, Bloomberg, Deutsche Bank, FactSet, Financial Times, Goldman Sachs, JPMorgan Asset Management, Kiplinger’s, Marketfield Asset Management, Minyanville, Morgan Stanley, MSCI, Morningstar, Northern Trust, Oppenheimer Funds, Payden & Rygel, PIMCO, Rafferty Capital Markets, LLC, Schroder’s, Standard & Poor’s, The Conference Board, Thomson Reuters, U.S. Bureau of Economic Analysis, U.S. Federal Reserve, Wells Capital Management, Yahoo!, Zacks Investment Research. Index performance is shown as total return, which includes dividends, with the exception of MSCI-EM, which is quoted as price return/excluding dividends. Performance for the MSCI-EAFE and MSCI-EM indexes is quoted in U.S. Dollar investor terms.
The information above has been obtained from sources considered reliable, but no representation is made as to its completeness, accuracy or timeliness. All information and opinions expressed are subject to change without notice. Information provided in this report is not intended to be, and should not be construed as, investment, legal or tax advice; and does not constitute an offer, or a solicitation of any offer, to buy or sell any security, investment or other product.