In our 2025 Outlook, Navigating Disruption, discovering opportunity, penned in early December, we challenged investors to discover opportunities – be active, be nimble (around a core strategic longer-term position) – even as we were likely to face new disruptive forces to navigate as the year ahead progressed. Indeed, as we traverse the first couple of months of this year, the geo-political and trade disruption, as well as the interest rate ‘interruption’, we identified in our outlook are already forces we are now navigating.
Inside this month’s Core Offerings, we revisit our key themes for 2025, why we believe a favourable macro backdrop remains on track, but also why it may take some time to reveal itself through this now unfolding volatility. Inside, we highlight the key macro developments over the summer that we believe have the potential to shift the narrative. If 2024 was the year to ‘lean into risk’, 2025 remains destined to be a year to discover opportunity during dislocation to enhance otherwise expected average-like returns across asset classes.
This month, we have also made some modest changes to our tactical positioning. With both fixed income and equities expected to outperform cash by less than experienced in 2024, we’ve trimmed our equities overweight (moving back to neutral for domestic equities) and added back to cash. Within fixed income, in the wake of the recent rise in global bond yields, we’ve added back to global bonds from Australian bonds (which have outperformed recently). We remain constructive, looking to harvest tactical alpha in equities and credit.
“I think the actual cuts that we make next year will not be because of anything we wrote down today. We’re, we’re going to react to data. That’s just the general sense of what the Committee thinks is likely to be appropriate”.
Market volatility through December and January intensified. This was always a likelihood as the inauguration of President Trump for his second term approached in late January, and a volley of executive orders impacting US trade and immigration, among other things, was anticipated. Using tariffs to drive outcomes desired by the new US Administration has already started to be weaponised. However, this volatility has intensified as stronger US growth data now challenges the disinflation narrative, the rapidly shifting direction of US climate (and social) policy is impacting renewable, nuclear and autos sectors, together with January’s disruption to artificial intelligence (AI) norms, with its genesis in China.
Despite this, we believe the fundamentals we outlined in our 2025 Outlook, Navigating disruption, discovering opportunity, that condition our constructive macro backdrop, remain very much intact as 2025 gets underway. As we noted at the time, “there’s little not to like” as far as the macro is concerned. Global activity looks set to moderate through 2025 to only a modestly below trend pace (and may start reaccelerating as 2026 comes into view). Inflation globally remains on track to continue to moderate toward central bank targets, supporting consumer real income growth and providing further scope for central banks to continue to trim interest rates through the year.
As Longview Economics recently noted, “many of the ingredients for [a growth] upswing, are in place. Across 90 [global] central banks, the majority are in rate cutting mode: the European Central Bank (ECB) is cutting; the US Federal Reserve (Fed) is cutting, the Bank of England (BoE), the People’s Banks of China and other central banks are also cutting. That equates to a collective aggressive central bank easing cycle (equal to the highest monthly net cuts since the GFC). Major economic crises in key parts of the global economy tend to occur when money is being tightened and rates hiked (not loosened).”
We believe that over the course of the year, and in the wake of two years of strong equity market returns, this constructive macro backdrop will still foster ‘average-like’ (or more normal) returns across asset classes. Equities will continue to be supported by good macro growth and strong underlying earnings (and margins), while fixed income returns will be gleaned more from regular income (and less capital growth) as interest rates normalise.
Yet as we enter 2025, there is an increasing risk that our thesis may take longer to emerge. Stronger-than-expected US growth poses the risk of delayed Fed cuts, as could angst about aggressive US fiscal easing, threatening rising yields. Similar angst about US trade policies and its potential to stymie global growth or delay inflation progress, could also paint a less constructive macro backdrop near-term. Still, for now, we assess the collective weight of global inflation and growth data as signalling a combination of moderating growth and inflation that should secure moderate returns in 2025, amid this volatility.
“Across 90 [global] central banks, the majority are in rate cutting mode. That equates to a collective aggressive central bank easing cycle (equal to the highest monthly net cuts since the GFC). Major economic crises in key parts of the global economy tend to occur when money is being tightened and rates hiked (not loosened).”
As we noted in our 2025 Outlook, this year was likely to be a year of navigating new forces of disruption. Already this year, there have been a number for investors to navigate:
LGT Crestone’s view is that we are in an unbalanced, multi-polar world, with a waning global hegemon (the US) and an assortment of competing powers jockeying for global position…
…investors should expect higher growth and inflation, and look for higher productivity growth as nations compete to get ahead.
Despite consensus that the US economy would slow through 2024 under the weight of high interest rates – with some now predicting that growth slowdown through 2025 – late
January’s Q4 data printed growth of 2.3%, moderately below Q3’s 3.1% pace (with the annual rate still at an above trend 2.5% rate). Recent data confirms still strong underlying demand, with core retail sales and jobs growth both beating expectations in December.
Good data has suddenly become bad for bonds and equities. Together with little further meaningful progress on disinflation between September and November, this underpinned a relatively hawkish cut from the Fed in December. The ‘dots’ now signal only two cuts in 2025, against expectations that the prior four would be trimmed to three, leading to a significant lift in bond yields and pull-back in equities through December.
Arguably, some softer data, and renewed moderation in inflation (as was hinted at in the December CPI data) is needed for the Fed to follow-through with further rate cuts. Investors may well have to navigate a ‘pause’ from the Fed at its March meeting, where most currently expect a further rate reduction. Markets are currently anticipating two Fed cuts this year. We expect some renewed easing of growth and inflation toward the end of Q1 2025 to reinforce that outcome, a positive for both equity and fixed income returns.
For AI to be a legitimate investment thematic (i.e., not a bubble), AI application needs to broaden beyond just the Magnificent 7. Recent developments suggest that greater AI pervasiveness may again see out-performance of equal-weighted S&P500, mid- cap, and potentially small- cap, equities.
“Chair Powell admitted that while it would be speculative to change course based on future policies, the Fed is positioning for higher inflation risks ahead by keeping rates higher for longer.”
Data through December and January continue to reveal a loss of momentum in the European economy, post a tepid exit from recession earlier last year. European growth stalled (at 0.0%) in Q4 (sharply below Q3’s 0.4% pace). Indeed, Germany finished 2024 with negative annual growth, the first time in 20 years output has declined for two years in a row. This loss of momentum is also evident in the UK which, after rebounding strongly from its H2 2023 recession, looks on track for flat Q4 growth at the end of 2024.
As Longview Economics recently noted, “Bearishness towards Europe has grown in recent months. The German and French governments have collapsed, Europe’s labour market is deteriorating, and weakness in China continues to dampen European activity. Tariffs on European goods into the US (expected this year) will no doubt add to that weakness”.
While this makes it difficult to lean into equity markets at an index level in these regions, there is likely still significant value below the surface, such as financials (which are likely to be supported by relatively aggressive rate cuts). Indeed, weaker growth and progress on disinflation suggests the ECB and BoE will be reducing rates significantly through H1 2025, a support for their economies and markets (particularly fixed income). UBS expects the ECB to trim rates four times to 2.00%, and the BoE to trim six times to 3.25%, in 2025.
Arguably, some softer data, and renewed moderation in inflation is needed for the Fed to follow-through with further rate cuts. Investors may well have to navigate a ‘pause’ from the Fed at its March meeting.
3. China growth rebounds end-2024—but growth and deflation headwinds persist
After much weakness, China’s end-year Q4 2024 data showed stronger momentum, likely on the back of prior government stimulus as well as stronger exports on the front-loading of demand ahead of expected tariffs. An unexpectedly strong 6.6% annualised pace in Q4 (according to UBS) surprisingly lifted annual growth to its targeted 5% for 2024.
However, while further stimulus is anticipated in the year ahead, we believe China still faces significant growth headwinds through 2025 including a property downturn, a subdued consumer, and likely US tariff imposts (with the new US Administration floating a 10% tariff from 1 February 2025). Indeed, daily data through January 2025 already point to a loss of momentum across a range of indicators, relative to Q4 2024 (see chart).
“Bearishness towards Europe has grown in recent months. The German and French governments have collapsed, Europe’s labour market is deteriorating, and weakness in China continues to dampen activity. Tariffs on EU goods into the US (expected this year) will no doubt add to that weakness”.
Reflecting these concerns, there are still likely downside risks to the China growth outlook. While consensus centres around 4.5% in 2025 (after 5.0%), UBS is sticking to its weak 4.0% forecast (slowing to 3.0%) in 2026. While a lack of growth momentum is a negative for the world economy, the ongoing disinflationary impulse suggests little risks of a global inflation reacceleration, supporting our expectations for modest global rate cuts ahead.
Against expectations, early December’s Q3 growth data for Australia remained weak, at just 0.3%, with the annual pace slowing to 0.8% from 1.0%. As shown in the first chart, this is a third of the pace of US growth. And much of Australia’s growth has been sourced from government activity (up 4.1% over the year), while private demand is up just 0.7%.
Indeed, after two quarters of no growth, the Australian consumer is essentially in recession. No surprises the Q4 inflation data has slowed – easing to 2.4%, albeit, helped by Government subsidies. However, the key ‘underlying’ measure which abstracts from these impacts, also eased to 0.5% in Q4 – annualising at the bottom of the Reserve Bank of Australia’s (RBA) 2-3% inflation target. With the RBA targeting ‘consumer’ price inflation, not ‘government-driven’ inflation, a consumer recession and core inflation at the bottom of the target suggests the RBA will be under significant pressure to trim rates mid-February, its first cut for the cycle. The subsequent rally in bond yields and Aussie equities contributed to our tactical return to neutral for both domestic equities and bonds this month (see below).
While further stimulus is anticipated in the year ahead, we believe China still faces significant growth headwinds through 2025, including the property downturn, a subdued consumer, and likely US tariff imposts (with the new administration floating a 10% tariff from February).
As CBA noted last year, “the re-election of President Trump will disrupt global trade. His presidency also injects uncertainty…investors [will] seek exposure to US dollar assets”. The Aussie dollar, as a ‘risk-loving’ currency, proved one of the more significant causalities of the US election’s ‘red sweep’, dropping around 10% during Q4 2024 (albeit a more modest 5% drop against a broader basket of currencies).
With global equities experiencing significant volatility as the Fed moved more hawkish, the currency has certainly played its role as a portfolio diversifier. However, on some metrics, the Aussie dollar remains undervalued. Yet analysts do not expect that undervaluation to close before end 2025 (with UBS and CBA targeting USD 0.60 and USD 0.62, little changed from its current range). Still, we retain our modest overweight to the AUD (since early December), on a longer-term assessment that the US dollar is stretched and that our constraints-based geo-political lens suggests much of the US dollar’s strength is in the past.
With the RBA targeting ‘consumer’ price inflation, not ‘government-driven’ inflation, a consumer recession and core inflation annualising at the bottom of the 2-3% target suggests the RBA will be under significant pressure to trim rates mid-February, its first cut for the cycle.
2024 was a year to harvest the beta in markets, given the persistent positive backdrop (that only delivered limited market drawdowns). In 2025, we expect volatility to lead to more meaningful market falls, while also presenting opportunities to be active and nimble through that volatility, rather than chasing rallies (as in 2024). We continue to believe truly diversified portfolios will re-establish their importance during 2025.
Reflecting this, we retain the constructive overweight to equities (+3 from +2) relative to cash (-2 from -3). However, with both fixed income and equities expected to outperform cash by less than experienced in 2024, we’ve trimmed our equities overweight (moving back to neutral for domestic equities). Within fixed income, given the recent rise in bond yields, we’ve added back to global bonds (-2 to -1) from Australian bonds (+1 to 0, which have outperformed recently on lower inflation data). We remain constructive, looking to harvest tactical alpha in equities (where we remain overweigh the US and Japan) and credit (where we retain our preference for investment grade over high-yield credit).
With both fixed income and equities expected to outperform cash by less than experienced in 2024, we’ve trimmed our equities overweight (moving back to neutral for domestic equities and domestic bonds).
We maintain a broadly constructive macro view and, while we expect further moderation in global growth and inflation, the risk of a deeper slowdown remains modest. We are booking some profits this month on our equities and Australian government bond overweights, re-directing them into cash (to reserve dry powder to deploy into potential opportunities) and global government bonds. We remain constructively positioned but ready to respond to emerging risks and opportunities.
Navigating policy uncertainty: Trump 2.0 heralds potential tailwinds for the US economy but more political and geo-political uncertainty. Investors will need sound frameworks and steady hands to navigate potential disruptions prudently.
Can central banks secure a soft landing? Benign inflation allowed central banks to cement a global rate cutting cycle in 2024. The challenge for 2025 will be balancing how much they ease to support growth without re-igniting inflation.
Discovering opportunities beneath the surface: Elevated valuations mean that the best opportunities may lie beneath the broad index level, rewarding more active ‘hunter’ versus passive ‘gatherer’ investors.
Fortune favours the bold: 2025 is likely to favour investors who can digest and exploit the opportunities that come with market volatility. Prudent portfolio diversification and active management will be important tools in the astute investor’s arsenal.
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