By John Stewart, chief investment officer at Farmers Trust Co.
Week in Review: A Bumpy Start to the New Year
Volatility has returned to the financial markets in 2025, as investors attempt to digest the implications for the transition in Washington, among other things.
The stock market has experienced some big moves in both directions as schizophrenic inflation data and interest rate volatility are creating uncertainty around the path forward for Federal Reserve policy.
Just a couple of months ago, markets were expecting at least another full percentage point cut in the Fed Funds rate, but now it appears unclear as to whether or not we’ll see any further cuts.
That has been putting upward pressure on longer-term interest rates – we’ve seen the 10-year Treasury rate go from 4% to 4.75% in the past 3 months – and stocks don’t typically like higher rates, especially when they move higher that quickly.
It’s no wonder the S&P 500 fell close to 5% from its early December peak through the end of last week, and is now trading around the same level as election day.
There are certainly positive signals coming from the economy, but stocks are still expensive. Interest rates, therefore, will likely continue to be the tail the wags the dog. Keep a close eye on that 10-year rate. A move about 5% would likely result in even more stock market volatility ahead.
Week in Review: Your Allocation is Key
Many investors focus more on the details when it comes to their investments than they do to the big picture.
There’s a lot of focus on individual stocks or sectors, and while that can certainly be fun, and is not unimportant, the biggest driver of returns, by far, is the overall asset allocation between stocks, bonds, and cash.
In fact, the percentage of stocks versus bonds in your portfolio is likely to be responsible for more than 90% of the return profile. Security selection, that is, stock picking is much less influential, assuming of course that you own a diversified portfolio.
Therefore, it’s important that you get your asset allocation decision right – should 40% of your portfolio be in stocks, or should it be 80%? It’s a different answer for everyone, but it’s the one you should be focusing on the most.
Looking Ahead: 2025 Market Outlook
Earnings season kicked off this week, so we’ll see how well the holiday economy performed but, more importantly, we’ll get some guidance on how corporate managers see 2025 shaping up.
Earnings growth is already expected to be quite strong this year, and stocks are already quite expensive with the S&P 500 trading at 22 times the earnings output that is expected this year.
International equities are more than 30% cheaper, so there could be opportunity to look outside the United States. It’s been a while since international stocks outperformed, and sentiment toward that group is about as negative as it can get – could be a contrarian sign.
Smaller companies are also far more attractively valued relative to large ones – if the economy continues to see strong growth this year, you’re likely to get more bang for your buck in small caps.