Lower interest rates, geopolitical conflicts poised to shape investment decisions in 2025

GLOBAL asset markets are likely to be influenced by lower interest rates and geopolitical trade tensions in 2025, with bonds and cyclical equities likely to benefit.

Policy rates have likely peaked as major central banks focus on easing, said Bhaskar Laxminarayan, Julius Baer’s chief investment officer and head of investment management in Asia.

“However, barring growth slumps or financial accidents, central banks will likely be reluctant to cut rates swiftly,” he said.

He added that certain wild cards could affect markets. These include trade disputes that could arise in a second Donald Trump administration, as well as a strong US economy leading inflation and interest rates higher.

In anticipation of a new economic cycle, Laxminarayan recommended gradually increasing exposure to industrial cyclicals.

“We have a relative preference for the machinery and equipment sub-sector, which should be a main beneficiary of a cyclical recovery, followed by transportation,” he noted.

UBS analysts, as part of the bank’s chief investment officer’s outlook for the year ahead, said that as interest rates are expected to fall, the pressure on indebted households should ease and improve conditions in rate-sensitive parts of the economy.

“Although (US) tariffs could temporarily increase inflation, we believe the Federal Reserve will continue its path of rate cuts towards achieving a neutral policy stance,” they noted, adding that they anticipate 100 basis points of rate cuts in 2025.

The analysts also expect central banks to cut interest rates further in the year ahead, which will reduce returns on cash.

To sustain investors’ portfolio income, the bank said that it is positive on high-grade government and investment-grade bonds.

“In our base case, we expect investment-grade to deliver mid-single-digit total returns in US dollar, euro, and British pound.

“These returns come from both yield (accounting for around two-thirds of returns) and capital appreciation (around one-third), as steepening yield curves mean investors benefit from ‘roll down’ as bonds approach maturity,” UBS said.

Barclays head of Asia cross asset strategy Kaanhari Singh noted that while major US indices are trading at 22 to 23 times the 12-month forward consensus earnings, she does not think that there will be a derating of the equities market.

“While duration is still not compelling, we don’t expect yields to rise to levels that (will) derail the equity market. In the near term, there is even the risk that momentum forces under-risked investors to chase the markets into (the) year end,” she said.

“But even in 2025, we expect risk assets to see the macro environment as a glass half-full, and so do we,” she added.

Johanna Kyrklund, group CIO at Schroders, observed that as the global economy is in a late-cycle phase and transitioning towards a recovery, investors should consider adding bonds to their portfolio as part of a diversified investment approach.

“Bonds are once again an attractive option for generating income, especially given the higher yields we are seeing,” she said.

Geopolitical tensions

Tensions in a multipolar world will also have an impact on investment decisions.

Conflicts in the Middle East and Ukraine create uncertainty and highlight the importance of commodity markets, such as gold and energy assets, as safe havens, added Kyrklund.

“Private markets, such as infrastructure and real estate, also stand out as they offer resilience through long-term, stable cash flows,” she said.

However, sectors reliant on exports outside of the United States may face challenges if president-elect Trump fully implements the tariffs he has planned.

On Nov 26, Trump said that he would impose a 25 per cent tariff on imports from Mexico and Canada, as well as a further 10 per cent tariff above any current tariffs on Chinese imports.

Kyrklund is also wary of high-growth sectors such as technology, which could struggle as rising bond yields make borrowing expensive. Investors may also redirect their capital towards higher-yielding fixed-income instruments.

Meanwhile, a Morgan Stanley report published on Nov 17 said that China, South Korea and Taiwan will face greater pressure given their high exposure to sectors such as semiconductors, IT and automotives.

“Meanwhile, Japanese exporters in these sectors will also likely be negatively impacted, but, in aggregate, Japan looks better positioned versus North Asia peers given that the majority of its North American revenues are produced in that region,” the analysts said.

They were also bearish on semiconductors and the IT sector, after these reached all-time-high valuations in the middle of 2024. They expect further downward adjustments as traditional cyclical dynamics unfold in memory, smartphones, PCs and other segments, such as advanced chip products.

“Protectionist measures likely impact this sector more than any other in our coverage, in our view,” they said, adding that they are underweight on the sector.

UBS analysts were similarly bearish on growth in China, although they noted that China’s 10 trillion yuan (S$1.8 trillion) local government debt-resolution plan, which was announced in November, should help mitigate risks.

India’s rise

Instead, UBS analysts are more bullish on India and Indonesia, which have favourable demographics and lower tariff risks.

“In fact, US-China tensions might actually enhance investment in other parts of Asia, bolstering infrastructure and construction activity,” they said.

Julius Baer’s Laxminarayan is also bullish on India and Indian equities as the country remains a secular growth story that presents long-term investment potential.

“We recommend sticking to stocks that offer quality and high free cash flows for now, while watching out for cyclical opportunities in anticipation of the new cycle,” he noted.

Morgan Stanley’s analysts also retain India as their most preferred market, noting that stocks that benefit from domestic demand, such as financials, consumer discretionary, staples, telcos, utilities and industrials, are well represented.

“We are bullish on more traditional economic development opportunities within emerging-market economies – particularly those that can capture the incremental capital investment from supply chain diversification trends and unlock favourable trends in urbanisation, industrialisation and technology-led upgrading of household consumption,” they said.

They added that India is on track to be the largest market on the MSCI emerging markets index.