January 31, 2025

Looking ahead to 2025, the financial landscape continues to be defined by the “higher-for-longer” interest rate environment that has now become the consensus among investors. This shift, which we’ve long anticipated, is evident in the surge of bond yields worldwide, reflecting expectations that rates will remain elevated above pre-pandemic levels for an extended period for practically everyone on earth.

The current economic expansion, now 26 months in, is expected to continue, supported by a robust U.S. economy. The new administration has also floated very aggressive pro-business policies that are expected to encourage continued growth, perhaps most notably within the energy sector, which could have deflationary effects. However, this expansion is occurring against a backdrop of significant structural changes. We’re witnessing the simultaneous impacts of artificial intelligence, geopolitical fragmentation, and demographic shifts, which are creating countervailing opportunities and risks for investors. The future is quite uncertain, but quite optimistic nevertheless.

Despite this new normal of higher rates, U.S. equities have demonstrated remarkable resilience. Stocks continue to rise albeit with volatility, driven by tech gains and positive Q4 earnings reports. This performance underscores a key point: even in a higher-rate environment, stocks can continue to push higher as long as fundamentals remain strong.  In the fixed income space, the higher-yield environment has created opportunities to secure attractive income through short-dated Treasuries and investment-grade credit. These assets offer reduced interest rate risk, which is crucial for portfolios nearing their target date. At the same time, we’re carefully watching long-term corporate bonds for signs of assurance, as persistent U.S. deficits and sticky inflation continue to push up yields on longer maturities.

Looking ahead as for what to expect in the not-so-distant future, we see several key themes shaping the investment landscape:

  • Inflation may not decline as expected, suggesting a need for continued inflation protection strategies and demand for high interest deposits.
  • Fiscal policy debates could introduce volatility into bond and real asset markets, affecting treasuries and mortgages.
  • Longer-term market interest rates may not fall as anticipated, despite potential Fed easing, now less certain.
  • Emerging-market stocks could outperform U.S. stocks, driven by discounted valuations and growth catalysts, but nobody knows when.
  • Market returns might be below average due to high expectations already priced into markets even if the economy grows.

In this evolving market environment, diversification remains crucial. We’re adapting to higher interest rates by favoring short-term securities for income while maintaining exposure to equities, particularly in the U.S., where we see continued growth potential particularly in quality, industrials and tech. As always, staying attuned to economic indicators and corporate earnings will be essential as we navigate this complex investment landscape.

The new normal is here to stay, and successful investing in 2025 will require a dynamic approach that embraces these structural changes while remaining vigilant to emerging risks and opportunities.