QUARTERLY MARKET UPDATE as of  October 2025

A steady climb upward produced very positive results for stocks in the third quarter. The S & P 500 increased 8.1%, setting an all-time high with all sectors moving higher except Consumer Staples which fell 3.2%.  Consumer Discretionary and Technology led the way each gaining over 10%.  International markets also increased, with the MSCI EAFE Index gaining 4.8%. Small cap stocks had the best showing with the Russell 2000 Small Cap Index increasing 12.4%.

Interest rates on bonds fluctuated back and forth with economic activity over the quarter, finishing only about 10 basis points lower across the intermediate and long end of the yield curve. The 10-year treasury note started the quarter at 4.25% and finished at 4.15%.  The Fed cut the Federal Funds rate on September 17 for the first time this year by ¼ point to a range of 4% to 4.25%. At that time, short term rates (less than 1-year), and all money market funds adjusted down by this same ¼ point, while the rest of the yield curve actually moved higher.  The 10-year note was at 4% before the Fed rate cut.

The extent of the cuts as well as what may be needed going forward has been hotly debated in Washington, within the Fed, and among investors.  The views range from the Fed is behind the eight ball and more aggressive cuts are necessary, to a more cautious approach is needed to prevent a strong rebound in inflation.  The slight increase in the longer end of the yield curve is attributed to a recent positive GDP revision, rather than higher inflation.

Economic growth as measured by GDP was anemic earlier in the year after ramped up imports offset exports and reduced the growth rate. There were pre-emptive purchases before higher tariffs kicked in.  As imports have now slowed to a 15-month low, the trade deficit has improved and net exports have pushed GDP back up.  The US economy grew at the fastest pace in two years with second quarter GDP being revised up to 3.8% on the backs of strong consumer spending and business investment.  This growth rate is expected to slow in the second half of the year. The consensus forecast for 2025 is for GDP to increase between 1.7% to 1.9%, with lingering tariff and policy uncertainty to weigh on growth.  Nevertheless, that range is still higher than most of our global trading partners.

The consensus forecast from The Economist shows GDP growth in Europe, Canada, Japan, and South Korea are all expected to be closer to 1% this year.  Global inflation has also moved up in these countries, but the average increase of 2% is less than U.S. inflation which remains closer to 3%. The unemployment rate in the U.S., while still near low historical levels, is inching up.  The latest reading of 4.3% is much better than Canadian unemployment at 7.1% and 6.2% in the EU.

The ever-evolving tariff war has made it a challenge for some business planning decisions.  However, in the U.S. tariffs have had less of an impact on inflation than expected.  Some of this can be attributed to inventory purchases before prices went up, and to businesses partially absorbing the costs. Also, the U.S. economy has changed over the decades and the service sector now represents about 80% of American workers, and over 70% of GDP.

As manufacturing is a smaller percentage of the U.S. economy than in the past, the impact from tariffs will not be as significant. More importantly, the incentive for our trading partners to negotiate for more open and free markets remains higher as long as their growth rates are lower and unemployment rates are higher. This makes inflation forecasts based on tariff increases more challenging as long as the deals continue to evolve.

Adding to this uncertainty is a government shutdown which will delay economic releases in a very data dependent time. This may result in a temporary shift to rely on private company macro-economic data rather than government reports. However, earnings forecasts have typically been provided by private company’s consensus forecasts, so that will not change.  FactSet’s recent “Earnings Insight” report for S & P 500 companies projects a very positive 14% earnings growth for next year, along with a 7% revenue growth rate.

The market forward P/E ratio is often cited as a measure of valuation. This is an estimate of the index’s price relative to the earnings of the companies within the index. For over 100 years the average ratio was close to 17x, while a post WWII ratio was closer to 20x. Currently the ration is at 24x which implies valuations are expensive.  The growth rate and composition of the market have changed over the years. Today we have a much higher percentage of the index attributed to Technology, about 33%, versus 5% back in the 60’s. Higher growth rates in the technology sector should justify a higher forward P/E in the market.  Likewise, lower interest rates also justify higher valuations as the present value of money is higher when interest rates are lower. The current 4%+ yields on T-notes are more conducive to a higher valuation than the 12% Treasury rates we had for a time in the 70’s.

Market corrections can happen at any time, but we do not see significant evidence of a pending bear market.  We will continue to focus on higher quality companies with above average earnings and dividend growth.