After having front-loaded rate cuts by a total 100bps for 2024 the FED decided to stand pat at the latest March FOMC meeting. The combination between a resilient U.S. economy and steady labor market allowed the FED to remain patient in normalizing policy. The FED forgoes consecutive rate cuts at each meeting as witnessed during the latter part of 2024. The latest dot-plot suggests a total of 50bps of incoming cuts for 2025 but market projects 100bps of reductions as trade tariffs threaten demand destruction. The FED sees the U.S. economy expanding 1.7% and 1.8% in 2025and 2026, respectively with stickier core PCE read of 2.8% for 2025.
Market expects no further FED easing at least till June. FED currently in “wait and see” mode as President Trump roll out new and potentially reflationary policies. Core PCE is expected to decrease to 2% only by 2027. Earlier, FED Chair Jerome Powell refuses to acknowledge fiscal policy risks in achieving the FED’s 2% inflation target until impacts become palpable. However, in a marked shift, Powell publicly commented on the economic risks posed by President Trump’s trade policies. The FED paints the current easing cycle as an act of “recalibration” rather than a response to an unexpected downshift in its economic assessment or a response to a significant deterioration in labor market conditions.
The ongoing culling (both planned and implemented) of the federal workforce totals 216k positions thus far with another 75k accepting voluntary buyout offers. This puts more workers into what is already a finely balanced U.S. labor market. The U.S. Federal Government employs 2.4 million workers (excluding U.S. postal service) accounting for 1.9% of the entire U.S. civilian workforce. This could ultimately amount to the biggest job cut in U.S. history. U.S. leading indicators deteriorated as fears over unemployment and inflation expectations mount. Tariff polices remain in flux. The 90-days reciprocal tariff reprieve for all countries ex. China did not sparked sufficient reassurance for markets as tariff for autos, steel and baseline 10% remained in place. Trade tariff would still lop off 1% of U.S. GDP even if all tariffs are immediately reversed.
The ECB eased policy further by another 25bps across three key benchmark interest rates. The ECB earlier downgraded GDP growth outlook to 0.9% and 1.2% for 2025 and 2026, respectively. The ECB’s asset purchase program (APP) and pandemic emergency purchase program (PEPP) no longer reinvests principal payments from maturing securities. The ECB is on an aggressive easing pivot to bolster meager economic growth.
BOE Governor Andrew Bailey has signaled an expedited approach to monetary easing and follow-through with a 25bps cut to 4.5% early February. The BOE halved 2025 GDP growth from 1.5% to 0.75%. The BOE is anticipated to cut at policy interest rate at least two more times 2025. Headline and core CPI rose 2.6% YoY and 3.4% YoY in March, respectively driven by softness in energy prices and stable food prices The BOE expects inflation to move towards 2% overtime.
After the BOJ held policy rate steady at the December meeting, the central bank voted 8-1 to hike policy rate by 25bps to 0.5% in January to a 17-year high. Inflation has persistently hovered above the 2% BOJ’s target. The market is now pricing a full a cycle high of 50bps in total policy tightening for the 2025 calendar year. Regardless, the BOJ has the optionality to moderate pace of rate hikes should tariff threatens growth and inflation outlook. China’s economy ended 2024 on a stronger-than-expected note, as Q4CY24 GDP expanded by 5.4%YoY followed by stronger than expected 5.4% growth in Q1CY25.
India’s 2024 GDP forecasts were downgraded to 6.5% due mainly to the contraction in government spending after a robust 8.2% growth in 2023. India’s benchmark equity index, remains 6% below all-time-high. Concerns regarding earnings growth and consumption prompted foreign investors to turn net sellers and lock-in gains. However, projected rise government spending and tax relief for the next fiscal year stoked optimism.
Global Equity: Markets initially cheered President-elect Trump’s pro-growth policy but sentiment quickly deteriorated after as FED’s easing pivot faced fresh setback from trade tariff and sticky inflation numbers. Market expects the S&P 500 to deliver 12% EPS growth for 2025 largely unchanged from end-CY24 projections. Interestingly, the delta in earnings growth rate between the “Mag-7” cohort and non-Mag 7 names are rapidly narrowing. The Mag-7 companies are expected report earnings growth of 13% in CY25 far lower than 40% in CY24, while the other 493 companies to report earnings growth of 9% for CY25 accelerating from 4% in CY24. The Mag-7 faces prospect of valuation de-rating as growth rate slows subsequently fueling rotation into non-Mag-7 names. Risks to earnings projections from trade tariff are yet to be priced-in. This raises the prospects of EPS downgrades if tariffs are not quickly reversed
With a 7% decline year-to-date, S&P500 valuations remain relatively less stretched with a TTM (trailing-twelve-months) P/E of 22.6x for the. However, this P/E ratio is still above the 10-year average of 21.5x. Although tariff policies could reverse rather quickly the ensuing damage from observed volatility and an uncertain outlook could still hit corporate America earnings triggering another leg down. Assuming S&P500 CY25 earnings growth forecast are halved to 6% with valuations retreating back to -1s.d. on 10YR average P/E of 17.8x, the index would face another 16% drawdown from current level.
Market awaits President- Trump’s corporate tax cut which would boost S&P 500 earnings by slightly less than 1%. Investors are excited about lesser M&A scrutiny under a new U.S. President and lower cost of capital both are bullish for small-mid cap companies. Moreover, international revenues accounted for 39% of the Russell 1000 Index (large cap proxy) constituents and half that at 19.9% for the Russell 2000 (small cap proxy). Therefore, tit-for-tat trade tariff would disproportionately affect large caps over small. This has further piqued the interest of investors for small caps. Excluding companies with negative earnings, market expects Russell 2000 Index constituents to grow earnings 12.5% annually during 2024-2026 with a trailing 16.7x P/E the index is cheaper than large caps.
NIKKEI225 saw selling pressure following the selloff in U.S. tech names during August and on the back of Japan’s auto sector facing a 25% tariff on exports to the U.S. The index and remains 15% below all-time high. The recent slump in Indian shares has been largely driven by weak Q324 results across key sectors coupled with elevated valuations relative to emerging market peers. Consumer goods companies, hindered by a slowdown in rural consumption, reported earnings below estimates. Indian banks are also dealing with deteriorating asset quality both of which have unnerved investors. The BSE Sensex projected earnings growth for CY25 has slowed to 9.6% relative to 5YR (CY19-CY24) growth rate of 14.9%.
China Equity: China faces 145% tariff on U.S.-bound exports and has retaliated with 125% tariff on U.S. imports. These rates render goods trading unfeasible between the two countries. China exports a massive USD439 billion worth of goods to the U.S. in CY24 accounting for 13.4% of total U.S. goods imports. China’s status as the primary and reliable supplier of everyday goods to the U.S. portend substantial and cataclysmic impacts to U.S. consumers ranging from price surges to goods shortage once existing inventory runs out. A lift on majority of tariffs placed on Chinese exports to the U.S. may arrive sooner than expected purely out of necessity.
China’s latest stimulus barrage included a 50bps reduction on average interest rates for existing mortgages, and a reduction of the minimum down payment requirement to 15% on all types of homes. The PBOC also introduced two new tools to boost the capital market. A swap program with a size of USD71 billion would allow funds, insurers and securities brokers easier access to funding to buy stocks. The PBOC said in a statement it will “implement a moderately loose monetary policy to create good monetary and financial environment for promoting sustained economic recovery”, underscoring the need for further monetary support.
The second measure provides up to USD42.5 billion in cheap PBOC loans to commercial banks to help fund other entities' share purchases and share buybacks. A USD1.4 trillion debt swap was launched allowing local governments to exchange high-interest off-balance sheet debts for longer-term bonds. China is set to run a 4% budget deficit to GDP in 2025 to shore up consumption larger than a target of 3% for 2024 targeting 5% GDP growth. The increase in the deficit by one percentage point translates to an additional expenditure of approximately 1.3 trillion yuan (USD179.4 billion).
After finishing 2024 with mid-teens returns, the first positive reversal for Chinese equities in three years, the Hang Seng Index (HSI) soared 12% YTD dramatically outperforming global peers. Performance was driven by solid Q4 technology sector earnings and progress on AI development. Low market expectations, compelling valuations, accelerating earnings growth and continued fiscal support bolstered returns. After the recent rally, the HSI Index has re-rated to 11.2x P/E slightly below the 10YR average. The HSI earnings growth are penciled in at only early-single digits on 12 months forward basis leaving plenty of room for EPS growth to surprise to the upside. EPS growth for the CSI300 Index was upgraded to 19% for CY25 with a compelling price-to-earnings-to-growth (PEG) ratio of 0.83x.
Alternative Assets: FED’s pivot has initially lifted REIT performance. However, REITs witnessed intense selling pressure from the rise in 10YR U.S. Treasury yield which soared as much as 128bps from 2024’s trough and whipsawed as markets attempt to price-in rising U.S. fiscal deficit and higher inflation. Nevertheless, REITs and infrastructure assets will continue to benefit from larger investors’ allocation as Treasury yields are expected to see pressure across the curve driven by FED’s delayed but ongoing easing pivot. As part of income investing strategies, investors are seeking out income generating assets beyond risk-free instruments to meet desired returns inevitably benefiting interest rate sensitive assets with stable cash flows. The recent sell-offs marked a good entry point for mid-long term investors.
Fears regarding negative economic impacts from President Trump’s tariff policy and inflation resurgence continued to push gold price higher. Geopolitical risks are no longer the main catalyst for gold prices. Crude prices are pressured by weak demand growth coupled with the prospects of supply growth from both OPEC+ and non-OPEC+ producers. OPEC+ reaffirmed its commitment to unwind 2.2 million barrels per day production cut enacted on April 1st, 2025.
For 2025, investment focus should be placed on funds that invest in quality stocks with reasonable valuations, REITs, infrastructure assets and investments that benefit from lower risk premiums such as small-mid-caps and emerging market equities. The front end of U.S. Treasury curve offers a tactical investment opportunity from potential curve steeping. U.S. policy interest rates are still anticipated to head lower in response to shifting economic outlook. We recommend clients to invest with a portfolio-based approach through a combination of strategic and tactical asset allocation (SAA and TAA) to better optimize risk-reward and ride out volatility.
Arun Pawa, IP, FM, IA, Investment Strategist
CIMB Thai Bank (CIMBT)
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