Outlook 2025: opportunities and risks
Investors should be prepared for periods of volatility, given policy uncertainties
THE year 2024 has proven to be exceptional for risk assets. Despite geopolitical conflicts and a busy election calendar globally, the Morgan Stanley Capital International World Index rose by an impressive 24 per cent. Even as China continues to face intensifying trade tensions with the United States, Chinese stocks reversed the previous year’s losses to clock in a 20 per cent gain.
Strong fundamental support
Despite a 62 per cent gain in the Standard and Poor’s (S&P) 500 since early 2023, the outlook for equities remains positive as we head into 2025 and would justify an overweight in a mixed asset portfolio. The economy has shown surprising resilience despite tight monetary policy. The Federal Reserve is projected to implement one to two more rate cuts next year. It is important to note that these cuts are not recessionary but rather a fine-tuning of policy to reflect the current inflation and growth outlook.
Trump 2.0 – opportunities and risks
The re-election of Donald Trump, supported by a Republican majority in both the House and Senate, is expected to provide further incremental support to the US economy. Key policy priorities include tax cuts, deregulation, tariffs and immigration reform. The Tax Cuts and Jobs Act, commonly known as the Trump tax cuts, is likely to be extended in late 2025, which will accelerate corporate earnings and investments in the US. Deregulation will also spur activities in sectors such as energy and financials. However, aspects of the Inflation Reduction Act which subsidises renewable energy may be repealed.
The use of trade tariffs, which is a hallmark of the first Trump administration, will be expanded. The president-elect has announced tariffs of 25 per cent for Mexico and Canada, and an additional 10 per cent on China. During his presidential campaign, a tariff rate of 60 per cent on China and 10 per cent on all other imports were proposed. A universal imposition of tariffs will have negative repercussions for the US economy, as it is unrealistic for the country to substitute all imports within a short period. This will lead to a rise in consumer goods prices, which is politically costly. Hence, the final implementation will likely be more nuanced and phased out.
Given the broad consensus on China’s threat, tariffs on Chinese imports will inevitably rise. The US has a more than US$300 billion trade deficit with China, and the first round of tariffs implemented in 2018 has not narrowed the bilateral trade deficit. This is partly due to the strong US demand and numerous exemptions put in place.
It could be argued that the true bilateral deficit may even have widened if trade diversion by Chinese companies through another country such as Mexico and Vietnam is taken into consideration.
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US strength – less trickle-down effect
Historically, periods of strong growth in the US have benefited the rest of the world, particularly manufacturing-oriented Asia. But this is likely to change. The America-first policy under Trump will mean higher tariffs, driving more manufacturing activities onshore. Countries that rely on goods exports with large trade surpluses with the US – including China, Germany, Vietnam and Mexico – will be more vulnerable.
Key investment themes for 2025
Trump 2.0 and a Republican sweep will result in continued US outperformance and uncertainties for the rest of the world. In recent years, mega-cap stocks in the US have contributed disproportionately to broad index returns. In 2025, investors could consider opportunities outside the mega-caps for better returns, as valuations are less expensive and have more domestic exposures. Recent earnings revisions outside the Magnificent Seven stocks are being revised higher. With broader market breadth expected, the S&P 500 equal-weighted index or the Russell 2,000 index are potential options. Sectors that will benefit from deregulations include financials and energy.
For economies outside the US, the focus should be on those with lesser export exposure to the US In Europe, the defence sector is likely to benefit from pressures by the Trump administration to increase defence spending. While China continues to face deflationary pressures and tariff risks, much of these developments are priced in to some degree. The Chinese government has sufficient fiscal room to ease and pivot the economy towards more domestic demand, but so far, incremental demand support has been conservative. Investments in China should focus on sectors deemed strategic by the government, are less cyclical and supported by high dividend payouts.
The artificial intelligence innovation has powered the technology sector, adding more than US$5 trillion in market value to the top five companies. Initial beneficiaries such as Nvidia enjoyed an immediate earnings boost from the race to train models which require massive computational power.
However, history has shown that leadership will eventually broaden to companies that can extract value through applications such as software companies. Sectors that are key to the multi-year build-up in physical infrastructure such as industrials and utilities will enjoy strong sales. Despite a healthy growth outlook that will limit the scope of interest rate declines, fixed income will continue to play an important role in an investor’s portfolio. While many policy proposals are clearly growth-positive, some – such as the mass deportation of undocumented workers – will reduce the potential growth in the US and exacerbate services inflation. As with any structural shift in policies, volatility is to be expected.
The US 10-year Treasury yield at 4.6 per cent is at long-run average levels, and will offer diversification to equities while earning a reasonable carry. Suitable investors could also consider bank capital, high yield and private credit as part of a diversified fixed income portfolio. We continue to advocate an allocation to gold as a hedge. Gold has performed well in 2024 given declining rates, and central banks’ buying will continue to be a support.
Overall, we expect that markets would likely stay supported in 2025. However, investors should be prepared for periods of volatility, given policy uncertainties.
While returns for broad market indices should rise, the returns potential is unlikely to repeat at the same strong levels that were experienced in the past two years. Moreover, we expect more dispersion in stock returns but this may also mean opportunities for superior returns for investors.
The writer is chief investment officer at UOB Private Bank
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