Good morning. Thank you to everyone for sharing your car horror stories — it was an education for Aiden especially, who did not know some of these brands existed. It was also a lovely end-of-year treat, as this will be our last letter before the new year. While we are offline, please check out the FT’s newest newsletter, India Business Briefing, which gives (excellent) biweekly insights on the country’s business and policy environment.

Have a happy Christmas, Hanukkah, or whatever else you celebrate, and a happy new year! In lieu of gifts, email us: [email protected] and [email protected].

Predictions time! (part 2)

Predictions should be quantified; it helps you see just how wrong you were when the facts roll in. Every prediction in what follows will be ranked by degree of certainty on a scale of 1-4, noted in square brackets like [this].

A [4] represents table-banging self assurance, a probability of 75 per cent or greater; [3] shows reasonable confidence, in the range of 50 to 75 per cent. A [2] indicates a 25 to 50 per cent probability, but one that remains clearly the most likely of the predicted options. A [1] is a favourite outcome among a scattered range of possibilities, all of which seem unlikely. A [+] moves the prediction to the high end of the stated range.

Predictions should also be internally consistent; predicting something logically or practically impossible is embarrassing. With that in mind, before I offer predictions for sector performance in 2025 — as promised on Wednesday — let me first sketch out my predictions for the macro scenario, which will give the sector predictions context.

Start (because you have to start somewhere) with fiscal policy. It will remain loose next year [3]. In general, I believe Donald Trump’s policies will be less revolutionary than many people seem to think. His second term will look a bit like his first. Some sort of tax cuts will be passed [3], but on tariffs, immigration, and especially budget cuts, there will be a huge amount of noise but not a huge amount of policy action in 2025 [2+*].

Loose fiscal policy will help the US economy, which has good momentum, stay strong, with real growth of at least 2 per cent [2+]. This will keep inflation stuck as much as a percentage point above target for most of the year, and the Federal Reserve is either done, or will cut only once more in 2025 [2]. This either maintains or widens the interest rate gap with the rest of the developed world, so the dollar will stay strong or get even stronger [2+].

Loose fiscal policy will also continue to support markets, and tighter than expected monetary policy will not pop the growing bubble in US equity markets. But the market will not be up as much as in this past year, and volatility will be higher than in 2024 [3], which did not see a single market event that dragged the S&P 500 down by 10 per cent, though July’s selloff came close.

Tech, artificial intelligence, and mega-cap stocks generally will continue to lead the market, as their earnings growth continues to impress. The biggest stocks will have merely solid gains, however, not the rip-roaring increases of 2024 [3]. The higher volatility will increase the popularity of defensive sectors such as staples and healthcare [2]. The dream of the market broadening, fervently hoped for by every strategist and stock picker, will not be a big enough trend to matter [2+].

The strong dollar will tighten global financial conditions and is bad news for the rest of the world. But the damping effect of the strong dollar will be counteracted by China’s government, which will, at last, find some way to do meaningful stimulus in hopes of boosting domestic demand [2*]. This will give the oil price a boost, but only a small one [2+].

Readers may be disappointed with the preponderance of 2 and 2+ probability rankings there, meaning I assign probabilities of less than a 50 per cent to most of my predictions. No 4’s and no 1’s. Well, I’m disappointed too, but this is finance, where the spread of possible outcomes is wide. Still, I have sketched a broad picture than can be definitively wrong: US growth strong, Fed policy tight, dollar strong, US stock markets volatile but OK, tech marches on, rest of the world still under pressure but possibly helped by China. Think you can do better? I’m all ears. Send me an email!

With all that as background, here is my guess on S&P sector performance rankings for 2025. I’ll give the whole list a [1+] chance of being even broadly right — there are 500 variables here!

1. Healthcare (rebounding from a bad 2024, plus defensiveness, and Trump policy threats fizzle)*

2. Financials (growth, deregulation, highish rates all help banks; market volatility helps investment banks)

3. Info tech (tech and AI continue to lead)

4. Consumer staples (defensives appeal)

5. Industrials (economic growth means another solid year)

6. Communications (top-heavy sector and all the big companies soared in 2024)

7. Consumer discretionary (Tesla and Amazon = 60 per cent of sector; pricing in risk of Musk-Trump spat)

8. Materials (soft global growth; upside if China does proper stimulus)

9. Energy (another “meh” year like 2024)

10. Utilities (AI story intact, but overbought in 2024)

11. Real estate (continued high rates hurt)

That should give me plenty to regret in December of 2025. Happy new year!

*Aiden thinks the predictions with asterisks are dumb and he wants no part of them. He insists: there will be big policy moves on immigration and foreign policy; China will disappoint on stimulus, and even if it delivers, stoking demand will take years; healthcare stocks have more bad news coming — Robert F Kennedy Jr and pent-up anger at the insurers and drug companies will inspire new regulations.

Looking back on 2024

One of the cool parts of writing a daily newsletter is in December looking back over the year’s zillions of words, and seeing when you were smart and when you were dumb. Here’s what we see this time around:

Regime change came, but in ways we did not expect. Earlier on in ‘24, we rattled on about the Magnificent 7. Could they continue to carry the market? At times, it seemed like change was upon us, notably in July when it looked like small-caps were back, or after the market frowned on a good-but-not-good-enough Nvidia earnings call. Red herrings all. Big Tech rolled on.

Regime change did come, but in the form of the Trump trade. When prediction markets started betting on his victory, a broad bull run took hold, with small-caps, bitcoin, Tesla, and bank stocks doing particularly well. This has reversed, to an extent, but investors are pricing in earnings support from tax cuts, deregulation, and a hot economy. Only industries facing unique challenges, such as energy, materials and healthcare, have been losers.

AI is the new Magnificent 7. There is some overlap between the two, of course, but Broadcom and Palantir have gone bananas:

We have wondered whether AI is a bubble or not. If it is, we aren’t sure when it will pop; but markets keep getting jumpy with each successive earnings report, especially as capital expenditure on data centres and AI infrastructure grows. We expect that will continue next year, with the potential for some nasty downsides — or, indeed, a pop.

The things we are scared about have changed. Earlier this year, we were concerned about banking blow-ups, commercial real estate, recession, and the effects of quantitative tightening. None of that mattered much. On some level this makes sense. The end of a rate-rising cycle and a strong economy make for a forgiving environment.

Now we have new fears: in particular stock market bubbles meeting bond vigilantes. On top of that, the rest of the world looks less sturdy than the US, and we have been reminded how portfolios have no respect for borders. As we learned in July’s market rumble, a sell off in one market soon arrives elsewhere. Brazil’s crisis has not spread, but if emerging markets are shocked by Trump’s agenda, contagion may come back next year.

The case for US exceptionalism has solidified. The case for US outperformance — both economic and financial — has only strengthened as the year has gone on, and now has the potential to cause some real pain elsewhere. But not everyone is a winner, and the economic cycle continues to be weird. In the run-up to the first Fed cut, we wrote a lot about how consumers were starting to run out of steam, but this has only shown up in the results of a small group of companies (one of which, alas, was an Unhedged stock pick this year).

Yet, the election results and delinquency rates suggest there is still a lot of pain out there. Will US exceptionalism be a tide that lifts all boats, at least in the US? Or will things only get worse?

We’re excited for 2025. Onwards!

(Reiter)

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