The 2nd quarter began with President Trump launching a trade tariff shock into the global trading system sending equity markets down sharply. The US bore the brunt with the S&P 500 falling almost 15% in the first week. Volatility spiked and remained elevated for weeks. However, by late April, investors began to understand these announced tariffs as just the beginning of President Trump’s trade negotiation strategy rather than an extreme, inflexible demand. The S&P 500 rebounded quickly and finished the quarter up 10.2%, bringing the 6-month 2025 return into positive territory, now up 5.5%.
In addition to the increased trade tensions pressuring governments around the world, geopolitical pressures worsened during the quarter. The Russians steadily increased their attacks in Ukraine, the Israelis continued their fights with Hamas in Gaza, Hezbollah in Lebanon, and directly started a war with Iran. The US had been trying to oversee peaceful settlement negotiations in each conflict but, in the end, proactively inserted itself into the mix by strategically bombing Iran’s nuclear facilities that were thought to be relatively close to producing a nuclear weapon. It remains unclear how each of these conflicts will be resolved; however, investors do not appear overly concerned with the magnitude of any spillover effects on equities or bonds.
You may recall that we began this year with a relatively positive investment perspective based on our framework and the strong business fundamentals that we observed. Equity markets had strong years in 2023 & 2024 and businesses were in good shape following productivity improvements, higher profit margins and increased levels of free cash flow. While valuations were elevated at the time, we felt that the underlying earnings growth rate could still drive a reasonable growth expectation for equities if long-term interest rates held steady and remained under 5%. As it has turned out, earnings in Q1 came in mostly better than expected and, while management guidance for the balance of 2025 has typically remained guarded, views for 2025 performance are still relatively optimistic. The improving tariff negotiation process is helping to boost investor sentiment. This has not only helped equities but has also helped suppress long-term bond yields, pushing the 10-year Treasury yield below 4.5%.
Other economic variables have also trended favorably. Inflation continues to be moderate; job growth has been holding up while unemployment has remained low; and wages continue to increase more than inflation. Consumer spending is holding up better than expected and recession fears are receding. Business investment is reasonably good despite all the uncertainty caused by the trade tariff negotiations. Artificial intelligence investment has been strong and may bode well for significant productivity increases ahead. Finally, the recent budget bill will be stimulative to economic growth and the Fed is ready to re-introduce interest rate cuts once the fears of tariff-induced inflation have passed.
Our investment framework emphasizing demonstrated management excellence, competitive strength, free cash flow growth, strong balance sheets, dividend growth, interest rates and valuation supports our course of action even when unfavorable events seem to be disruptive to markets. We remain vigilant going forward as we see these issues continuing to evolve with unknown consequences.
Disclosure Statement
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