December Market Commentary

2024 Investment Market Performance

The U.S. economy and financial markets demonstrated remarkable resilience in 2024, overcoming higher interest rates, geopolitical tensions, and rising unemployment. Stocks posted robust gains, defying
predictions of a downturn and benefiting from steady corporate profit growth and the promise of innovations in artificial intelligence (AI). Technology stocks, particularly mega-caps and AI-related shares, led the charge, with the NASDAQ, S&P 500, and Dow (1) all reaching record highs. Every market sector ended the year in positive territory, with information technology and communication services soaring over 40% and consumer discretionary and financials advancing more than 30%. Wall Street’s optimism was fueled by the Federal Reserve’s late-year rate cuts and the November election of Donald Trump, which spurred hopes for tax reductions and deregulation. Foreign investment in U.S. securities also reached a record $30 trillion, underscoring global confidence in the U.S. economy.

In contrast, the bond market experienced significant volatility. Early in the year, bond prices fell as yields climbed, reflecting shifts in Federal Reserve policy and global uncertainties. However, investors had poured over $600 billion into the global bond market by year-end, locking in some of the highest yields in decades. The 10-year Treasury yield peaked in May before trending downward, hitting a low in September. Post-election, yields edged higher on expectations of increased government spending. Despite the Fed’s rate cuts totaling 100 basis points in 2024, inflation remained above its 2% target, hovering between 2.4% and 2.7%.

In December 2024, markets delivered a lump of coal rather than the traditional “Santa Claus rally.” Major indexes dipped in the final trading sessions, driven by mega-cap declines and lingering uncertainties. The
NASDAQ fell 0.9%, while the S&P 500 and Dow lost 0.4% and 0.1%, respectively.

Despite this late-year slump, 2024 marked a period of exceptional market performance, setting the stage for a cautiously optimistic outlook in 2025. The attached Quarterly Market Review for the Fourth Quarter of 2024 provides detailed performance data for the investment markets and charts the market-moving headlines that occurred throughout the year.

Balanced Outlook for 2025

The investment landscape for 2025 presents both opportunities and challenges as markets respond to shifting fiscal, monetary, and geopolitical dynamics. On the positive side, a pro-business environment marked by stable corporate taxes, deregulation, and targeted rate cuts could support corporate earnings, encourage capital investment, and foster innovation. The Federal Reserve’s rate cuts in late 2024 have set the stage for
improved credit conditions, potentially fueling economic expansion across key sectors. Additionally, if the new administration successfully implements pro-growth policies, reduces deficits, and strengthens trade relationships, the economy could achieve greater resilience and sustained growth.

However, significant headwinds persist. Federal debt has surpassed 110% of GDP, and rising interest payments could crowd out private investment and constrain fiscal flexibility. Persistent inflation, while moderating, remains a concern, constraining the Federal Reserve’s options for additional rate cuts. While showing signs of normalization, the yield curve continues to reflect distortions that challenge credit access for real estate
investments, small businesses, and consumers. The bond market enters 2025 with yields trending higher, with the 10-year US Treasury, arguably the most important rate in the world, trending towards 5%. Geopolitical risks, including ongoing conflicts and trade uncertainties, could disrupt global supply chains and financial stability, further complicating market conditions.

We believe these key themes will shape the economy and the markets in 2025.

·       Federal Reserve Policy: The Fed’s cautious approach to rate cuts signals ongoing vigilance against inflation. Recent Fed projections reduced expectations to just two additional rate reductions in 2025. This is subject to change but indicates it will take a marked slowing of the economic data the Fed monitors before they loosen monetary policy.

     On Jan 10, 2025, the Bureau of Labor Statistics reported much stronger-than-expected job growth in December. Strong employment reports provide the Federal Reserve less incentive to cut interest rates. Stocks sold off, and bond yields rose, pushing borrowing costs higher and taking the 10-year U.S. Treasury rates to over 4.75%. The recent 10-year Treasury spike has caused investors to remain vigilant amid persistent inflation concerns and potential short-term market volatility.

·       Fiscal Challenges: Managing federal debt and deficits will be critical to ensuring sustainable economic growth. The government finances its spending by issuing bonds; increasing bond supply puts upward pressure on yields and the interest rates tethered to treasury rates throughout the economy. Policymakers finding the political will for fiscal discipline to better balance fiscal spending with fostering private-sector
dynamism is vital. Not doing so may prove ruinous as it is inflationary and crowds out private sector investment.

·       Global Risks: Geopolitical tensions, particularly the ongoing Russia-Ukraine conflict and Middle Eastern instability, remain key factors that could influence markets. Trade policy missteps or further escalation of conflicts could impact investor sentiment and economic performance.

·       Market Breadth: The S&P 500 Index had a total return of 25.0% in 2024, with the Mag 7 accounting for 53.7% of the return. This concentration of performance highlights the unique market dynamics of recent years and underscores the challenges of comparing diversified portfolios to such a narrow group of dominant companies. While these companies have demonstrated impressive growth and innovation, their outsized influence on the market creates risks for investors, including heightened vulnerability to sector-specific downturns or company-specific setbacks. Additionally, relying on only a few stocks to drive returns can lead to distorted valuations and reduced diversification benefits, which are crucial for managing long-term risk.

·       Consumer Resilience: Despite challenges, robust consumer spending and wage growth have supported economic expansion, and declining energy prices may further bolster consumer confidence in 2025. However,
consumer sentiment in the housing market was marked by caution and frustration. Interest rates, which saw a modest decline but remained persistently elevated along with home prices, created affordability challenges for many buyers. Limited inventory further exacerbated the issue, with sellers hesitant to list their homes due to “golden handcuff” mortgages secured at historically low rates. In 2025, expectations hinge on the Federal Reserve’s policy direction. If interest rates stabilize or begin to decline, consumer sentiment may improve, potentially unlocking pent-up demand. However, continued high rates or economic uncertainty could constrain affordability, dampening the housing market’s enthusiasm. (For more information about why mortgage rates have increased while the Fed is lowering short-term rates, see the explainer at the end).

     2024 delivered exceptional economic growth and market returns, even as December and the early days of 2025 highlighted lingering uncertainties. As we enter 2025, the interplay between monetary policy, fiscal challenges, and global risks will shape the year ahead. For investors, the path forward demands a disciplined, long-term focus. Diversification remains paramount to navigating market volatility while capturing growth opportunities in sectors poised for expansion, such as technology, infrastructure, and energy. Staying informed about fiscal and monetary policy developments is essential, but reactionary investment decisions based on short-term fluctuations should be avoided. By staying focused on long-term strategies and maintaining a balanced perspective, investors can position themselves to navigate potential volatility and capture opportunities in an evolving economic landscape.

As the new year unfolded, we were met with heartbreaking news of the unimaginable horror of terrorism in New Orleans and devastating wildfires in Southern California. Our thoughts and deepest sympathies are with
all those affected by these profound tragedies.

2025 also brought the loss of our 39th President, Jimmy Carter, passing just days before what would have been his 100th birthday. In reflecting on his remarkable legacy, I was struck by one of his quotes that resonates deeply in times of uncertainty: “We must adjust to changing times and still hold to unchanging principles.” This timeless wisdom gently reminds us to stay rooted in our core values, even as the world around us changes. Whether in our personal lives, communities, or investments, this principle guides us to navigate life’s uncertainties with resilience and purpose.

Your portfolio reports are available in your eMoney vault for easy access. We are reaching out to clients to schedule reviews. Please reach out if you are ready for a review or if you have something we can assist
with. You can call us or schedule a review here.

Wishing you and yours the best of life, health, and prosperity in 2025! Thank you for your continued trust.

Mortgage Rates & the Fed Explainer

Why are mortgage rates higher if the Federal Reserve cut rates by 1% since September?

Since mid-September, the Federal Reserve (the Fed) has cut short-term interest rates (called the federal funds rate) by 1%. However, rates for 30-year mortgages have increased by nearly 1% during the same period. The 30-year Fixed Rate mortgage average was just over 6% in mid-September. As of
January 9th, it sat at 6.93%.

The Fed has a lot of influence over short-term rates, but long-term rates, like mortgage rates, are influenced more by the bond market. However, the Fed has taken steps in recent years to influence longer-term rates as well, especially during the 2008-2009 financial crisis and the pandemic, through a policy known as quantitative easing.

The U.S. Treasury issues debt (bonds), and the Federal Reserve buys that debt during quantitative easing, adding it as an asset to the Fed’s balance sheet. This process is sometimes described as “turning on the money-printing press” because it creates money by the government issuing and buying its debt. Doing so, the Fed becomes a massive buyer in the bond market. When there’s more demand for bonds, their prices increase, and their yields (or interest rates) decrease. This was a primary reason mortgage rates were so low from mid-2020 through the end of 2021, and many people took full advantage by refinancing their mortgages at great rates.

However, once the Fed acknowledged that inflation had become a problem and was not “transitory,” they raised short-term rates quickly. Instead of selling the bonds they bought during quantitative easing, the Fed chose to fight inflation by aggressively raising short-term rates and passively allowing bonds to roll off their portfolio. This means they don’t reinvest in new bonds when the ones they hold mature. About one-third of the Fed’s bond portfolio is tied to mortgages, which only leave the Fed’s balance sheet if someone refinances or sells their home (which isn’t happening much since many people are locked into low rates).

The Fed’s large bond and mortgage portfolio keeps interest rates lower than they might otherwise be—economists from the Fed and elsewhere have estimated that the asset purchases surpress long-term interest rates by about 1.5 percentage points. In spite of a still large bond portfolio held by the Fed and the 10-year Treasury rate appears to be trending towards 5%. Last Friday (January 10th), the 10-year rate closed at 4.77%

Supply and demand dynamics in the bond market are causing long-term rates, like mortgage rates, to rise. Here are two reasons:

1. Too much supply: The Treasury is issuing many new bonds without the Fed buying as many; if demand doesn’t grow proportionally, bond prices drop, and yields rise.

2. Concerns about inflation: Inflation erodes the value of a bondholder’s returns. If inflation is higher than expected, the bond’s fixed interest payments and the final payout at maturity are worth less in real terms. Such concerns about expected inflation decrease the demand for bonds, lowering prices and increasing yields.

Thus, although the Federal Reserve (Fed) has reduced short-term interest rates by 1% since mid-September, mortgage rates have risen nearly 1% during the same period due to their dependence on the bond market rather than the federal funds rate.