What a difference a few short months can make. Last quarter, we were lamenting the sharp stock market selloff triggered by the administration’s sweeping tariff announcements. Fears of a trade war, concerns over higher consumer prices, and even talk of a possible recession brought on by a slowdown in exports all weighed heavily on investor sentiment.
By the end of this quarter, however, we find ourselves celebrating record highs in most of the major stock indices. As we noted in our last commentary, the market decline at the time appeared to be more of a short-term overreaction to the initial headlines, and this has largely proven to be the case. Much of the tariff rhetoric has since been postponed or negotiated down, allowing investors to refocus on the underlying strength of the economy.
The economy itself has demonstrated resilience beyond what many economists had forecasted. Key indicators such as GDP growth and employment continue to show solid footing, even as President Trump has described the current environment as a “period of transition.” In many respects, this leaves the financial markets right back where they were at the start of the year — albeit with a bit more caution baked in.
Looking ahead, we believe the second half of the year will be largely shaped by expectations around Federal Reserve policy. At its most recent Federal Open Market Committee meeting, the Fed opted to keep its benchmark interest rate steady at a range of 4.25% to 4.50%, a decision that aligned with broad market expectations. However, their updated Summary of Economic Projections revealed notable downward revisions to GDP growth forecasts for the remainder of 2025. This shift adds to the growing body of data that supports the likelihood of rate cuts in the coming months.
On the other hand, inflation has reemerged as a critical concern. The administration’s tariff policies are widely anticipated to put upward pressure on prices, both by increasing production costs for businesses and through direct impacts on consumer goods. Federal Reserve Chair Jerome Powell has openly acknowledged that tariffs are already influencing economic activity and have been incorporated into the Fed’s forecasting models.
This leaves the central bank navigating a particularly tricky policy environment. Slowing GDP growth would typically prompt the Fed to lower interest rates to stimulate the economy, but doing so runs the risk of fueling higher core prices — setting up a potential stagflation scenario. Balancing these competing forces of growth and inflation is a delicate task and one that the Fed will likely grapple with over the coming quarters.
The bond market has reflected some of this uncertainty. Like equities, longer-dated bond yields dropped notably during the first quarter as investors flocked to safety amid trade fears but have since rebounded. As a result, yields are roughly unchanged for the year. The 10-year Treasury note, for instance, is currently yielding around 4.3% and has remained within a narrow band of roughly +/-0.2% for much of the past 12 months. It remains to be seen how future rate cuts — if they materialize — will impact yields, especially if inflation proves to be more persistent than anticipated. In such a scenario, we could see Treasury yields remain largely static despite easier Fed policy.
From an investment perspective, this type of environment could actually be favorable. A combination of a more accommodative Federal Reserve alongside stable or higher long-term rates would provide support for equities while still offering attractive opportunities for income-focused investors. With many of our older, lower-yielding bonds having matured, our next challenge will be identifying comparable reinvestment opportunities as more bonds come due. Thankfully, with the 10-year Treasury consistently above 4.2%, the backdrop remains supportive for locking in yields that were hard to find just a few short years ago.
Looking ahead to the remainder of the year, we believe the political risks that fueled much of the volatility in the first half are largely behind us. With many of the most disruptive tariff threats now postponed or mitigated through negotiations, the markets have had room to refocus on fundamentals. If this calmer backdrop holds, we could very well see stocks add a few more percentage points by year-end. At the same time, we’ll continue watching how the Fed navigates the delicate balance between supporting growth and containing inflation. Barring any unexpected shocks, the combination of a resilient economy, prospects for modest Fed easing, and fewer political headwinds sets the stage for a reasonably positive environment for investors in the months ahead.
