After two consecutive years of above-average equity returns, we remain upbeat on continued upside given the promising economic environment in place as we enter 2025. Despite recently rising bond yields and the modest pullback in equity markets over the last several weeks, business fundamentals remain strong while prospects for disinflation and continued monetary easing remain in place. 2024 was just the second year of the current bull market and we see a realistic opportunity for this bull market to continue for some time. Although there will be volatility and periods of reversion to the mean, modestly higher equity prices are what we expect for 2025.
We are particularly bullish regarding potential secular productivity growth within the domestic US economy. Rising corporate cash flows are providing companies with the unique opportunity to expand both R&D and capital investments without taking on much additional debt. New AI technology capabilities are now being integrated into products and services while also substantially improving the design and cost efficiencies of product development.
Wall Street analysts currently project greater than 10% earnings growth for S&P500 equities in 2025. Profit margins are expected to increase and free cash flow may also rise by close to 10%. These are great fundamentals. Valuations are relatively high but not extreme at 21x 2025 earnings estimates. It’s not unreasonable to expect share appreciation to keep up with earnings growth. Shareholders will also benefit from widespread dividend growth, share repurchases, and in some cases, regulatory relief.
With unemployment low and 4% wage growth above inflation, analysts believe consumer spending will support a solid GDP growth rate of 2% or higher. Corporate investment (as described above) is expected to be a major contributor. Government spending will likely remain above trend (and in deficit). Onshoring and infrastructure spending should remain a focus and more than offset any reduction in global warming outlays. All in, the Fed expects 2.1% GDP growth for 2025, down from their 2024 expectation of 2.5%.
The loose cannon for 2025 is the bond market. The Fed is in position to continue reducing short-term interest rates if inflation continues to trend lower. But with all the economic players (consumers, businesses & government) flush with money to spend, the economy may prove to be too strong, and inflation may increase, driving long term bond yields higher. The recent uptick in bond yields has created a yield curve which is no longer inverted and now has a healthy, positive slope. However, the talk of increased tariffs is an inflation wildcard; and we would become concerned if long-term rates moved much above 5% as higher rates may lead to an economic slowdown. For now, we don’t believe this is the likely outcome. While the Fed tries to maintain economic growth and control inflation, we will continue to monitor the bond market and interest rates as part of our investment process.
All of us at SFE would like to thank each of our clients for their continued trust, support and camaraderie through the years. We would also like to extend our thoughts and prayers to all those impacted by the LA fires. If any of you have any special needs or feel we can be of help in any way, please reach out to us.
We wish you all good health and continued prosperity in 2025.
Disclosure Statement
SFE Investment Counsel is a Registered Investment Adviser. This presentation is solely for informational purposes and not a solicitation to invest. The results reflect the
deduction of fees and the reinvestment of dividends and other earnings. Advisory services are only offered to clients or prospective clients where SFE and its representatives
are properly licensed or exempt from licensure. Past performance is no guarantee of future returns. Investing involves risk and possible loss of principal capital. No advice may
be rendered by SFE unless a client service agreement is in place. Please contact a financial advisory professional before making any investment.
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