What a Difference a Quarter Makes…
The mood has unmistakably shifted. Just three months ago, Markets were gripped by extreme fear – tariffs, trade wars, and a resurgent inflation narrative dominated the tape. The reaction? Sell first, ask questions later. The result? A swift -20% drawdown in short order.
Fast forward to today, and there’s a noticeable difference, a bit of exuberance is back. Markets have not only clawed back losses but are solidly in the green for the year. It’s that familiar emotional pendulum: panic to party, all in record time. We quietly miss the days of calmer Markets… but we’re not holding our breath. Exhale.
A timely reminder, especially during these Market and Sentiment extremes, to stay grounded and breathe. Emotions may drive headlines, but objectivity drives investment results. Our lack of enthusiasm late last year kept us relatively insulated during the deep Spring correction – and allowed us to stay clear-headed when things looked bleak.
Where do we find ourselves today? Restrained optimism probably sums it up quite well.
What’s Happened of Merit?
We’re in a bit of a “Goldilocks but with fragility” moment. Growth hasn’t collapsed, inflation isn’t running away, and policy is on hold. But under the surface, things are fragile. A misstep on tariffs, a surprise Oil move, a Labor Market surprise, or a geopolitical jolt could push us out of that zone quickly. We remain nimble and open-minded, not complacent. Without disturbance, this is a good backdrop to be in.
Earnings Growth: S&P 500 earnings were up +15% & 13% in the first 2 quarters of ’25. There has been resilient profitability across Corporate America.
GDP Printing Growth: Q1 GDP grew just under 2%, with Q2 pacing toward +1.77%—slowing, but steady.
Inflation a Touch Hot: First-half headline inflation ran sticky at ~2.5%, still above the Fed’s comfort zone of 2%. This is the main culprit as to why they haven’t cut rates yet.
Dollar Weakness: The US Dollar Index is down -10% on the year. Major currencies (Euro, Pound and Yen) are all rallying, creating tailwinds for risk assets benefiting from a weak Dollar and global earnings. Gold, Commodities and Crypto are all benefiting from a weak Greenback.
Valuations on the Expensive Side: Valuations are back to the 95th percentile compared to history at 23 times 2025 earnings and 21 times 2026 estimates. Valuations matter when growth slows… until then they can remain elevated for long periods.
Labor Market: Softening but not cracking. This is supportive of continued consumption. Overtime hours are down. Temporary staffing is down. Weekly hours worked are down. Hiring rates are slowly slowing. Workers aren’t quitting. Employers aren’t firing. The unemployment rate remains at a historically low level. It has been like this for years now.
Volatility backdrop has certainly shifted and continues to dictate flows and investor behavior. The VIX volatility index hit 60 the first week of April. Since then it backed way, way off to 16. Intra-day moves went from averaging 3% in early April, incredible volatility, to 0.5% now. Volatility controls funds’ position based off that and is part of the reason we’ve seen a slow drift and constant bid to the Market.
Global Landscape: Growth Beneath the Surface
While US headlines remain fixated on trade wars and Fed policy, the Global Economy has been quietly expanding in the background. Multinationals are reaping the benefits.
Across Europe, countries like Germany and France are posting continued economic growth – not dramatic, but steady. Some of the BRIC economies are in a similar position: India and Brazil remain solid, and even China is showing a pickup in quarterly GDP. Trade hasn’t collapsed—it’s just been rerouted.
Asia is capitalizing on AI-driven semiconductor demand. Resource-rich nations are benefiting from commodity flows. And the -10% YTD drop in the US Dollar has eased financial conditions abroad, boosting emerging market assets and adding a global tailwind to the risk landscape.
We are not seeing broad-based euphoria – but there is momentum. And momentum matters. We’re tracking it closely, especially where improving fundamentals meet attractive valuations. Global growth remains a quiet contributor to the bigger picture.
Policy, Politics & Powell
President Trump has revived a familiar campaign target: Chair Powell and interest rates. The Fed’s in a tough spot; we’ve chronicled the pickle the Fed has put itself in.
The 2022 inflation shock left policymakers overly cautious. By keeping emergency-level policy in place for too long, they helped turn what was supposed to be transitory inflation into something far stickier. Today’s inflation is different. It’s no longer just a Covid or stimulus-fueled surge—it’s becoming more structural, more localized, and more persistent.
Housing is a prime example. Inventory is rising. Prices are softening. However, affordability remains poor (near the lowest in history). Price declines alone aren’t a healthy fix. What’s needed? Lower rates, modest ones even, to restore housing breadth and spur real economic activity. Historically, the majority of broad-based US economic recoveries and expansions are dependent on housing. We’re not there yet. Housing has largely been in the doldrums going on 3 years now.
So What’s Filled the Gap?
Two things: AI and massive government spending. This cycle’s growth has been led not by housing, but by compute, chips, and capital investment and the AI buildout. Private and public capital expenditures – especially in data centers, software, and infrastructure, remain strong. That strength is concentrated, not widespread, which helps explain why the S&P hits new highs while small businesses and middle America still feel the pinch.
Meanwhile, energy and materials are stirring from a long slumber. Signs of reawakening are driven by demand from both the digital buildout and physical infrastructure needs.
Looming large over all of this is government spending. “Nothing stops this train” is increasingly the unspoken doctrine behind fiscal policy. Full throttle ahead. Treasury Secretary Bessent has repeatedly emphasized the administration’s intent to run the Economy hot—betting that growth can outrun the fiscal hole. Emergency or recessionary Budget Deficits continue to stack up, and the new tax legislation continues that.
This strategy might create short- or medium-term strength, but in the longer term, it raises questions about sustainability, crowding out, and the risk of yield curve tantrums down the line. That’s for another day.
Rate Cuts Coming?
Two cuts rate cuts are currently being priced in for December, with another 2 or 3 expected in 2026. That would lower the Fed Funds rate from a current 4.375% to ~3.875% by year-end And potentially all the way to a low 3% range next year.
Could this help goose a very down-and-out Housing Market? Even for just a bit and add some legs to this growth cycle? We think it’s possible.
Rather than ask what can go wrong, what could go right here? Housing help. Not secularly, but an intermediate reprieve could go a long way to help sustain near-term growth.
On the Policy Front, tariffs have re-emerged as a key policy tool. So far, their impact has been narrow—more of a targeted tax than a broad economic shock. They’ve shifted trade flows and led to isolated price increases, but haven’t reignited systemic inflation.
That said, tariffs are contributing to some of the stickiness in headline metrics, keeping inflation modestly above the Fed’s comfort zone. The broader fear of a 2022-style inflation resurgence driven by tariffs appears overblown… for now.
Q3 Transition Period Ahead
We’re stepping into a “middle zone.” Q3 sits between the volatility of the first half—marked by tariffs and trade tension—and the expected policy tailwinds of late 2025 and early 2026, driven by potential tax cut extensions and fiscal stimulus.
Tariffs and political friction will remain headline risks. Markets seem to be pricing in diminishing marginal effects. We’re not quite that confident.
That said, the setup isn’t all caution. Tax reform chatter should begin to influence forward guidance and capital spending decisions. Legislative movement on stablecoin frameworks and banking regulation could drive incremental Treasury demand—just in time to cushion growing concerns over deficits and debt. A boring, flat Bond Market could go a long way to helping the Markets with a continued status quo Labor Market.
The macro picture? Slowing yes, but still expanding. Yes, growth is uneven. It’s bifurcated in places, but broadly resilient. Add in strength from abroad—especially in regions benefiting from the Dollar’s decline and evolving trade routes and the tailwinds become harder to ignore. Inflation has cooled meaningfully from its post-Covid spike, but settling above the Fed’s sweet spot, which keeps long-end yields sticky and policy optionality limited.
All told, this is a “Goldilocks window” with a touch of fragility. As we enter the second half, our plan is to capitalize on attractive opportunities while staying acutely aware of the risks. There are plenty of both. That’s the balancing act, that’s investing. We remain focused on striking the right balance while staying grounded in the process.
All the while, our eyes are wide open.
Have a nice weekend. We’ll be back, dark and early on Monday.
Mike Harris
