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We’re officially halfway through 2025, and today, I want to give you a midyear update on what’s been going on in markets, the economy, and politics—and what it all means for investors like you.
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Market Volatility and Investor Uncertainty in Early 2025
The first half of 2025 has reminded us, once again, that volatility is an inherent part of investing. Markets swung dramatically as investors navigated policy uncertainties, particularly around tariffs, inflation, and interest rates. But despite these turbulent times, global markets are actually higher for the year, with some important lessons we can take away.
U.S. Stock Market Swings on Tariff News
In the U.S., the S&P 500 started the year strong, hitting new highs in February—but quickly reversed course with a steep 10.5% drop over two days in early April, following the rollout of aggressive tariffs by the new administration. Yet just days later, markets rebounded sharply by 9.5% after a pause in tariffs was announced. This back-and-forth underscores how sensitive markets can be to policy news, and how challenging it is to predict short-term moves.
International Stocks Outperform Amid a Weaker Dollar
Looking internationally, we’ve seen a notable shift. After years of U.S. stock market dominance, international markets have outperformed significantly in the first half. Developed international stocks rose roughly 15%, and emerging markets gained around 12%—far exceeding the S&P 500’s modest gains. This shift has been driven largely by a weaker U.S. dollar, which amplified returns for U.S. investors holding international equities.
Speaking of the dollar, it’s important to recognize that currency movements matter. With the U.S. dollar down around 8% from its recent highs, it’s currently at its cheapest levels since 2022. For diversified investors, this has provided an unexpected tailwind, making foreign investments even more attractive.
Value Stocks Take the Lead Over Growth Stocks
Another key theme this year has been the resurgence of value stocks over growth stocks globally. Simply put, value stocks—those trading at lower relative prices—have outpaced growth stocks by a noticeable margin. But interestingly, small-cap stocks and high-profitability companies haven’t fared quite as well, lagging behind larger, less profitable counterparts. This underscores the importance of broad diversification across factors, rather than relying heavily on recent performance trends.
Bond Markets: Stability Amid Volatility
Turning to bonds, investors have experienced positive returns despite ongoing volatility. U.S. Treasury bonds gained about 2.8% as yields declined slightly from their recent highs. Globally diversified bond portfolios also performed well, highlighting again the importance of holding bonds not just for yield, but for stability during turbulent times.
Navigating the Fixed Income Landscape: Corporate Bonds
In the corporate bond space, performance has been mixed. High-yield bonds have outperformed Treasuries, buoyed by higher coupons and low spreads, while investment-grade corporate bonds slightly edged Treasuries. Preferred securities, however, lagged behind. Looking forward, investment-grade bonds remain appealing due to high absolute yields despite tight spreads. Meanwhile, high-yield bond spreads are historically low, signaling caution. Preferred securities offer a modest yield advantage with potential tax benefits for investors in higher tax brackets, making them attractive in moderation.
Municipal Bonds: Opportunities Amid Policy Uncertainty
Municipal bonds have faced challenges, particularly due to high issuance triggered by tax policy uncertainties and higher infrastructure costs. While performance in the first half lagged, muni bonds remain attractive, especially for high-tax-bracket investors due to their tax-exempt status. The credit quality of municipal issuers remains robust overall, providing a compelling combination of yield and stability. Investors should maintain duration at benchmark levels and focus on higher-rated issuers to balance risk and reward effectively.
Economic Resilience Amid Tariff Concerns
Now, let’s talk about politics and the economy. Clearly, tariffs have been the headline issue in the first half of 2025. With average effective tariff rates hitting their highest levels since the Great Depression, there’s genuine concern among investors about their impact on inflation and economic growth. So far, inflation remains moderately elevated—core inflation around 2.8%—still above the Fed’s target of 2%, but not yet dramatically problematic.
Despite these uncertainties, consensus among strategists at Dimensional, Vanguard, and Schwab points toward a resilient U.S. economy. The labor market, while cooling slightly, remains stable. In fact, improved conditions related to tariff policy have led many to believe the Federal Reserve has room to maneuver, possibly even implementing one or two rate cuts later this year. The takeaway here is that, despite real challenges, the economy is holding up better than many anticipated earlier in the year.
The Importance of International Diversification
One consistent theme across all the midyear outlooks is the value of international diversification. With U.S. equities historically outperforming over the past decade, many investors have understandably become heavily U.S.-focused. But the events of this year highlight how quickly trends can shift. European economies are benefiting from substantial fiscal stimulus, particularly in Germany, and the earnings outlook internationally is quite favorable compared to the U.S., providing investors compelling reasons to maintain a globally diversified portfolio.
Key Takeaways for Long-Term Investors
So, where does that leave investors? Here are three important takeaways from our midyear check-in:
- Stay Diversified: The shift toward international markets this year demonstrates why global diversification is crucial.
- Expect Volatility: Short-term market swings tied to political uncertainty are inevitable—but historically temporary.
- Stick With Your Long-Term Plan: Markets have a remarkable capacity to reward patient, disciplined investors who resist knee-jerk reactions to headlines.
As we move into the second half of the year, I’ll continue monitoring the markets and economic signals closely, providing updates here on my website and podcast.
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The Long Term Investor audio is edited by the team at The Podcast Consultant
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