As we navigate the third quarter of 2025, investors have adopted a risk-on approach, driven by speculation and optimism about the continuation of favorable market conditions. The US equity market has been propelled by the “Magnificent Seven” – a group of high-flying stocks that have surged 36% year-to-date, accounting for roughly 40% of the S&P 500 Index’s market value. Meanwhile, emerging markets have gained 27.5% year-to-date, largely fueled by China’s thriving technology sector. Gold and Bitcoin have also seen significant gains, rising 43% and 74% respectively, as investors seek alternative assets amidst a decline in confidence in the US dollar.
The S&P 500 Index has continued to power ahead, posting an 8.1% gain for the quarter and 14.8% for the year through September 30, largely driven by the performance of the “Magnificent Seven”. Smaller company stocks have also rebounded from their first-quarter slump, rising 12.4% for the quarter and 10.4% year-to-date, as stabilizing trade and tariff expectations have lifted these companies that are often vulnerable to supply chain disruptions. International stocks have also performed well, although their gains have been more muted due to a stabilizing dollar, with the MSCI EAFE index rising 4.8% during the quarter and 25.1% for the year.
The bond market has benefited from a slight decline in short- and intermediate-term interest rates, as well as expectations of further interest rate cuts later this year. The Bloomberg US Aggregate Bond Index has gained 2.0% during the quarter and 6.1% for the year. Alternative investments have also seen broad-based gains, with high-yield bonds rising 2.5% during the quarter, commodities gaining 4.1% despite a decline in oil prices, and commercial real estate rising 3.1% during the quarter.
Alternative assets, such as private equity and real assets, have also seen increased interest from investors seeking diversification and potentially higher returns. The current low-interest-rate environment has made these assets more attractive, as investors seek yield and returns in a low-return world.
Economy
The collective impact of tariffs, federal government cutbacks, and declining immigration is expected to slow the US economy, although the effects may take time to materialize. Economists are divided on the timing and magnitude of these effects, with the Federal Reserve Bank of Philadelphia’s Third Quarter Survey of Professional Forecasters predicting 1.3% GDP growth, while the Atlanta Fed’s GDPNow estimate stands at 3.8%. The uncertainty and mixed messages facing economists and investors have contributed to the cautious outlook, with growth expected to slow in the fourth quarter. However, tax cuts included in the One Big Beautiful Bill Act are expected to boost activity early in 2026, although this effect is likely to be short-lived and outweighed by higher tariffs and lower immigration.
Job growth has averaged 186,000 per month in 2024 but is expected to slow to around 70,000 per month in the third quarter and potentially lower in the coming months. While this would normally lead to an increase in the unemployment rate, a significant drop in immigration is likely to limit the change in the unemployment rate. The labor market remains a key area of focus, with the current low unemployment rate and rising wages contributing to inflationary pressures.
Inflation has started to rise, with the Consumer Price Index increasing 2.9% year-over-year in August, and JP Morgan expects it to reach 3.7% by year-end as businesses pass on rising costs to consumers. The impact of tariffs on inflation is a key concern, with the potential for higher prices and reduced consumer spending. The Federal Reserve’s decision to cut interest rates has added to the complexity, with the potential for higher inflation and lower unemployment rates.
Global economic activity has been strong, driven primarily by services, which account for roughly 70% of the US economy. Consumer sentiment surveys have been volatile, but the stock market has historically performed well after troughs in consumer sentiment. The current economic expansion is expected to continue, although at a slower pace, with the potential for increased volatility and uncertainty.
The US dollar has declined, partly due to the Federal Reserve’s interest rate cuts and overseas investors reevaluating their US asset holdings. This decline has boosted gains for US investors in international stocks, providing a significant diversification benefit. Overseas economic conditions remain broadly favorable, although global manufacturing is still suffering from tariff uncertainty. Valuations outside the US are more attractive, making international investments a compelling opportunity for diversification.
Outlook
Our outlook remains cautiously optimistic, with two major caveats: increased immigration enforcement and the net impact of higher tariffs. Anecdotal evidence suggests a shortage of workers in agriculture, construction, and hospitality is driving up costs, while some crops aren’t being harvested. The impact of tariffs on consumers has yet to be fully felt, with JP Morgan estimating that tariff revenue has increased from $8 billion in January to $27 billion in June, and $30 billion per month in additional costs that will largely be borne by consumers.
Investors have learned to take a wait-and-see approach to the Administration’s announcements, but if tariffs, deportations, or other policies impact corporate profits or consumer spending, markets will likely react negatively. The Federal Reserve’s accommodative stance, with a bias towards lowering interest rates, should benefit our bond holdings, and expected returns on our bond portfolios will be more attractive going forward.
The possibility of a recession seems to have eased for now, as investors remain cautiously optimistic about the direction of trade and economic policy. However, the current economic expansion is expected to continue, although at a slower pace, with the potential for increased volatility and uncertainty. We expect continued volatility as investors grapple with multiple potential risks and shocks, and we remain committed to providing guidance and planning to help our clients navigate these complex markets.
Our investment approach remains focused on long-term growth, with a emphasis on diversification and risk management. We believe that a well-diversified portfolio, combined with a disciplined investment approach, is the best way to navigate the complexities of the current market environment. We will continue to monitor the markets and adjust our portfolios as needed to ensure that our clients are well-positioned for long-term success.
Our Portfolios
Our stock exposure is currently broad-based and weighted towards large US companies, but our international exposure remains a clear positive this year. Although we have reduced our exposure to smaller companies, our core market funds still hold some smaller company stocks, which have helped our portfolios during the quarter. Smaller and medium-sized companies offer better valuations than larger companies but can also be more sensitive to economic volatility.
We are well-positioned for economic expansion, but if a recession occurs, we would expect our large company stock and value bias to hold up somewhat better than the broad stock market. Our international exposure remains balanced between hedged and unhedged investments and should continue to benefit from more attractive valuations than comparable US equities. Our bond holdings are expected to benefit from the Federal Reserve’s accommodative stance, and we anticipate more attractive returns on our bond portfolios going forward.
This year, we expect continued volatility as investors grapple with multiple potential risks and shocks. The possibility of a recession seems to have eased for now, as investors remain cautiously optimistic about the direction of trade and economic policy. As always, we are here for our clients and are ready to provide the guidance and planning they expect from us. If you have any questions about your investments or your financial plan, we would love the opportunity to discuss them with you.
