From the desk of Andy Adams
The year began positively for the stock market, reaching an all-time high in February, but tariff uncertainty in March and escalating concerns over a global trade war caused markets to end the quarter on a sour note. Equities declined while fixed income benefited from a flight to perceived safety.
As a result, the S&P 500 fell 4.27% and the Russell 2000 dropped 9.48%. Meanwhile, the Bloomberg U.S. Government/Credit Bond Index was up 2.70%.
Despite the headline indices declining, a deeper look at sector performance of the S&P 500 reveals significant variation in first quarter performance. Growth stocks, particularly in the Consumer Discretionary and Information Technology sectors, saw the sharpest declines due to elevated valuation levels from a long stretch of outsized performance. In response, traditionally “defensive” stocks, namely in Health Care, Consumer Staples, and Utilities, led the market.
While the stock market experienced disruption, the economy continued to show some resilience. The labor market remains healthy, adding 228,000 jobs in March, and the unemployment rate is still low at 4.2%. Additionally, consumer spending and housing market activity improved in recent months, after lulls to begin the year. Manufacturing also showed signs of picking up, with the ISM survey finally rising above 50, indicating expansion. Although this data is now “old news,” it paints a picture of an economy that entered the current upheaval on somewhat stable footing.
However, prospects of a prolonged trade war with China raise concerns about reigniting inflation and slowing economic growth. The uncertainty created by this backdrop clouds decision-making, which is already flashing warning signs with declining consumer and business confidence. The University of Michigan’s Index of Consumer Sentiment fell in March to its lowest level since 2022, and business confidence surveys also weakened. When faced with prolonged uncertainty, businesses and consumers become more cautious, delaying spending, investment, and hiring decisions. This can lead to a slowdown in economic activity, as decisions to commit resources are paused. The Atlanta Federal Reserve’s GDPNow model, which provides a real-time gauge of economic activity, deteriorated sharply in March, signaling a possible contraction in first quarter GDP.
The potential impact on inflation from tariffs is another cause for concern. While inflation has receded from pandemic highs, it has proven stubborn at 2.8% and is a key source of consumer frustration. At its core, tariffs are a tax, one that either businesses must absorb (at the expense of lower margins), or consumers must absorb by paying higher prices (leading to lower consumption). We expect many businesses to pass on most of this tax to consumers, which would likely create additional near-term upward pressure on prices and inflation. This dynamic of slowing growth and rising inflation (stagflation) puts the Federal Reserve in a difficult position, casting more uncertainty on future interest rate decisions.
As we look forward to the rest of the year, we cannot predict what’s next, but our approach to managing volatility has been tested for nearly a century. Uncertainty is a fact of life, but the current environment certainly creates a more challenging landscape for policymakers and businesses to navigate. The longer uncertainty persists, the harder it is for companies and consumers to make long-term decisions, which ultimately leads to slower economic growth. We expect more volatility in the months ahead as policies and their impact become clearer. Having a sound investment philosophy is always important, but even more so when market conditions become challenging. Rather than investing in markets, our approach of investing in companies with durable business models, healthy balance sheets, and reasonable valuations lends itself to the current environment. We remain committed to this philosophy and will do what we’ve always done, looking for opportunities that we believe will benefit our clients over the long term.
The S&P 500 TR Index is an unmanaged index of 500 common stocks that is generally considered representative of the U.S. stock market.
The Bloomberg U.S. Government/Credit Bond Index is a broad-based flagship benchmark that measures the non-securitized component of the U.S. Aggregate Index. It includes investment-grade, U.S. dollar-denominated, fixed-rate treasuries, government related and corporate securities.
The Russell 2000 TR Index is a small-cap stock market index of the smallest 2,000 stocks in the Russell 3000 Index.