Q2 2025: Volatility, Unemployment, Interest Rates, and Housing.

A volatile second quarter ended with major stock indices at record levels even as the quarter began with sharp declines following the Trump administration’s announcement of global tariffs, driving the CBOE Volatility Index (VIX) to its highest levels since 2020 (COVID). Despite trade policy uncertainty and increased geopolitical tensions as conflict between Israel and Iran dominated news, US stocks ended the quarter with the S&P 500 Index up 10.9%. Global stock markets fared even better with the MSCI All Country World ex USA IMI Index (net div.) up 12.7%. The Federal Reserve continued to leave interest rates on hold citing uncertainty around the impact of tariffs on prices. The European Central Bank and Bank of England both diverged from the Fed by cutting their target rates again. Both emerging and developed non-US stock indices outperformed the US market with both the MSCI World ex USA IMI Index (net div.) and the MSCI Emerging Markets IMI Index (net div.) returning 12.7%. IT stocks were market leaders, highlighted by strong quarters for Microsoft and Nvidia, with the sector overall gaining 23.2% compared to 11.0% for the broad Russell 3000 Index. Conversely, energy stocks underperformed as oil prices declined. Globally, small caps and value stocks tended to underperform large and growth companies. Profitability premiums were largely negative outside the US, although close to flat in the US.

Although portfolios are trending in the right direction, P/E ratios are also increasing, with a current level around 22 and an average of 17. Perhaps AI can help increase earnings or profitability, bringing P/E ratios back to more historically average levels. But it doesn't feel like a cheap market.

Interest Rates

With a normalizing yield curve, meaning you are rewarded with higher interest payments the more time/duration you take. There is still visible uncertainty here, as evidenced by the higher interest rates earned on the 3M T-Bill compared to the 7Y T-Bill. The Fed is holding steady with its rates, and I believe this is appropriate right now, as the market is poised for further investment with the amount of cash on the sidelines and the 'buy-the-dip' strategy most are now employing. I prefer the Fed hold off on lowering rates until it is required to spur the economy on again.

Housing

The elephant in the economic room is housing. Most people with a mortgage feel stuck in their home because the cost of switching may be twice their current monthly payment, and new entrants are struggling to purchase due to an affordability barrier. Although rates are staying just below 7% the housing market is softening. With housing supply steadily increasing, it provides downward pressure on home prices. Home prices won't crash overnight, but the days of selling for 10% over asking price seem behind us, and prices will likely trend lower unless interest rates drop.

Unemployment Rate

The job market is also becoming increasingly challenging, with new companies consolidating sales teams and larger, older companies downsizing entire divisions. What this likely means is that if you find yourself in the position of job hunting, you may not be able to take the pay bump in transition you were anticipating. If you find yourself unemployed, it will be easier to find a job when you have one, vs. waiting for the perfect position.

Summary

The market continues to climb, with recent standouts including foreign markets and growth companies, particularly in the tech and AI sectors. Amidst the whirlwind of news, breakthroughs, and tragedy, your financial plan hasn't changed much. Continue to save appropriately, invest responsibly, and be aware of your current age and stage. Many have been rewarded over the past 15 years for taking on risk in the stock market, crypto space, and with real estate. However, that won't always be the case, and having a game plan for a bear market is one of the best things you can set up now, while the grass is green.