Outlook
We’re kicking off a new year at near-record valuations in a maturing bull market. But as the AI buildout continues, there’s still plenty of room to outpace the market.
This year has big shoes to fill. In 2024, the S&P 500 reached a new high more than 50 times and ended 28% up. Goldman Sachs found that performance to be one of the strongest since 1928. The biggest contributors were the Magnificent 7 stocks – Nvidia ($NVDA), Tesla ($TSLA), Apple ($AAPL), Meta ($META), Microsoft ($MSFT) and Alphabet ($GOOGL) – as big spending on AI infrastructure translated into positive revenue guidance.
The trouble with starting on such a positive note is that U.S. stocks now look expensive. The 12-month forward PE for U.S. stocks is well above its previous 20-year high and mean. But according to Goldman, ‘the fact that equities have gone up a great deal already does not, in itself, hamper the prospects for further gains from here.’ This is not financial advice, of course.
The consensus across macro strategists also seems to be that the U.S. market is the centre of gravity. And in 2025, these themes might be the biggest drivers of growth.
AI and beyond
The AI revolution is expected to expand across sectors in 2025. BlackRock estimates that investment in data centres, chips and power systems could top US$700b in the next five years. They believe that future winners could come from unexpected areas, and productivity gains in one sector may drive value creation elsewhere.
Some recent beneficiaries include Broadcom ($AVGO), which joined the trillion-dollar market cap club after the company touted a ‘massive AI opportunity’ in a December earnings call. Also, Arista Networks ($ANET) and Equinix ($EQIX) – firms that specialise in data centre infrastructure – hit 52-week highs on the back of anticipated demand.
Of course, high barriers to entry in the AI buildout phase reinforce the market power that megacap tech firms have in this space. As long as that’s the case, many investors will choose to stay the course and invest in dominant companies.
Trump, trade, tax and treasuries
It’s likely that the biggest tailwinds — and, let’s face it, headwinds too — for markets will come from Trump’s new policies in 2025. There’s been much talk about tariffs on imports from China and Mexico, but it's the U.S. companies that pay that bill. Companies like Qualcomm ($QCOM) and Texas Instruments ($TXN) that derive over 27% of their revenue from China would feel the pinch.
It remains to be seen whether the net benefit from tax cuts for corporations will outweigh the potential inflationary impact of the policy itself. No doubt, a subsequent slowdown in the rate-cutting cycle could affect consumer spending. That’s something that will hurt retailers and the wider consumer discretionary sector.
Those inflationary expectations drove what’s being called the ‘Trump steepening trade’ in Treasury markets (when yields at the longer end of the curve spiked post-election). That might be good for defensive sectors like healthcare, but could negatively impact industries reliant on borrowing.
Setting up for 2025
Morgan Stanley believes we’re now entering the ‘optimism phase’ of the bull market.’ Crucially, this is before the ‘euphoric phase’ (aka danger zone) that precedes a bear market.
As for the fact that valuations seem high? According to Charles Schwab, valuation is a ‘terrible market-timing tool’: they say that stretched valuations are more an indication of sentiment towards equities rather than anything else. Remember, time in the market beats timing the market.
