Policy Headwinds and Tailwinds

Marc Zabicki (00:00):

Given the tariff induced shakeup in bond and equity markets in recent weeks, it's likely become clear that the unusually low volatility periods of 2023 and 2024 are now firmly in our rear view mirror. Our expectation was that volatility was going to rise due to the Trump administration's changes to how Washington works. We were surprised to not get higher volatility in the fall, but we have it now and it may not go away quickly. In this latest edition of LPL Street View, we'll take a brief look at the causes of the extreme spike in volatility we have seen and suggest that while higher volatility may be with us throughout the year, there are some policy tailwinds that could help support the economy and asset prices in the quarters and years ahead.

Marc Zabicki (00:51):

First, the reason for the equity drawdown in recent weeks and the additional amount of tumult in the bond market, has indeed been well documented and was due to economic inflation and earnings uncertainty brought about by current targeted changes to U.S. tariff policy. We are expecting an uptick inflation over the near term and earnings outcomes are likely to get curtailed a bit, but we are currently not expecting the U.S. economy to fall into a recession. So, there is likely to be change in fundamentals, and after two years of relatively smooth equity market ride, investors finally got a sell catalyst that has been overdue. On the positive side, it appears there are many countries positioned to negotiate with the administration on tariffs, and those results could in the end be beneficial to the U.S. economy. Also, on the positive tailwind side, we expect tariff policy and the resulting negotiations will in fact yield the reshoring of more production activity back in the U.S. and thus eventually help drive domestic economic activity.

Marc Zabicki (02:04):

We believe that plan has always been a targeted reason for the shift in tariff policy, simply to incent manufacturing and service providers to bring production back onto U.S. shores. Finally, we believe Federal Reserve interest rate policy will also be a tailwind, as it is our expectation the fed funds rate will be lowered later this year. We believe as the economy continues to decelerate from elevated post-COVID levels and inflation remains controlled, that will give policymakers enough room to reduce interest rates. Let's be clear, we have stated that managing through the 2025 market will not be as easy as it was in 2023 and 2024, and that statement is perhaps more clear at this very moment, but that does not mean we will not have a constructive investment environment, because we in fact, believe we will. It is important to know that as investors, you'll need to be properly dialed into the risk you are willing to take in a market and a year that is likely to offer a bumpier ride. Thanks for listening, and as always, allocate wisely.