Equities delivered unexpectedly robust returns in 2024, producing the best two-year performance in over twenty years. The year began focused on if, when, and how much the Federal Reserve would lower interest rates in its much-welcomed policy pivot and the associated impact on the economy and markets. Would we see a recession as many predicted, or a soft landing? Neither, as it turned out. There were a couple of market corrections along the way, with stocks falling in April and August before re-gaining the high ground and marching further upward.
The focus then shifted to the November elections, after which markets experienced a “Trump rally” with expectations for continued economic growth from promised tax cuts and reduced regulations. Equities moved sideways in December, with little margin for error as earnings assumptions appeared baked in the cake. With broad-based equity indexes at all-time highs and companies’ share prices trading at premium valuations, traders took profits going into the new year, closing the chimney on an expected Santa Claus rally.
Large companies posted the most impressive gains in 2024 with the S&P 500, and Dow Jones Industrial Averages (DJIA) gaining 25.02% and 12.9% respectively, for the year. The DJIA lagged because it contains only 30 companies including Boeing which dropped 32% during the year, demonstrating yet again the power of broader diversification. Smaller companies, represented by the S&P 400 (mid-cap) and S&P 600 (small-cap) indexes rose 13.93% and 8.70% respectively during the year. Developed international equity markets (MSCI EAFE) posted gains of just 3.82% and emerging international markets (MSCI EM) rose 7.50% during the period.
The 2024 consensus outlook had been for reduced inflation, lower interest rates and more modest economic growth. Inflation, after dropping below 3%, began treading water and further reductions may be hard-won. On September 18, the FOMC (Federal Open Market Committee) began the first of three cuts in the fed funds rate during the year, for a total drop of 1%. Market interest rates, instead of falling in the wake of those rate cuts, moved in the opposite direction. After the FOMC’s final cut in December investors were surprised with the Fed’s announcement of only two expected cuts in 2025, down from four cuts signaled after its September meeting, and the market sold off.
The FOMC raised interest rates eleven times from March 2022 to July 2023 trying to reduce inflation, then paused to evaluate the data before enacting its first cut in over five years on September 18, 2024. The current fed funds target rate is now a range of 4.25%-4.50%, down from 5.25%-5.50% but yields on 10-year U.S. Treasury notes ended the year at 4.57%, up from 3.88% at the end of 2023 and 30-year home mortgage rates ended the year at 6.85% compared to 6.09% just after the September rate cut. 
Market interest rates went up because of concerns over inflation and the budget deficit, but also because the economy is still strong, which is welcome news, so we will wait to see how 2025 unfolds. The prospect of higher for longer interest rates may reduce demand for home ownership as evidenced by the decline in applications for new mortgages. Higher rates can also temper enthusiasm for common stocks as increased costs of capital can impact companies’ earnings. Smaller companies, with leveraged balance sheets, are often more impacted by higher borrowing costs than other sectors. Large technology companies which have been trading at lofty price-earnings (PE) multiples could see a pullback if overall market sentiment softens. Also, higher yields can make fixed-income securities more attractive alternatives to equities.
Two of the biggest stories of 2024 surrounded AI (artificial intelligence), specifically Nvidia and cryptocurrency, specifically Bitcoin. Those with concentrated positions in NVDA held their collective breaths before every quarterly earnings release and in 2024, NVDA passed the test each time. That doesn’t mean NVDA’s out-performance will continue as the rest of the AI pack is investing a lot of intellectual and monetary capital to catch up. Nor does it mean AI will become as successful a tool as predicted by its proponents. Those with concentrated holdings of Bitcoin were rewarded as it traded over $100,000 for the first time in December. Given crypto’s volatility, unregulated markets, preferred currency of bad actors and lack of safe haven status, owners of Bitcoin or any other crypto should understand they are not investing in crypto currencies but speculating, and therein lies a big difference.
Looking into the new year, equites seem expensive with the S&P 500 trading at 21.9 times projected 12-month forward earnings, a 20% premium to its 10-year average, especially with a Federal Reserve not expected to be as accommodating as previously anticipated. However, if the Fed is less dovish because the economy is holding up, that’s a good thing. Earnings growth averaged 10% in 2024, led by the mega-cap companies and many are calling for similar growth in 2025.
The U.S. economy, as measured by real (after-inflation) GDP (Gross Domestic Product), held up well in 2024. GDP averaged 2.6% annualized during the year’s first three quarters and estimates are the 4th quarter will growth at a 3.1% rate. Some believe the economy is poised to re-accelerate in 2025 and 2026 from a pro-growth agenda and if that manifests itself into higher earnings those lofty equity valuations may not be so lofty. Inflation is stabilizing around a much-improved 2.5%, still above the Federal Reserve’s 2% target, but estimates are it could drift down if lower taxes, increased oil production, lower regulatory costs and reduced federal spending materialize.
Markets don’t like uncertainty and there is no more unpredictable or unnerving risk than that from terrorism. As 2024 gave way to 2025, we witnessed human devastation in New Orleans from an unexpected and barbaric act. Our hearts go out to those injured and to the families of those lost. At times like this we are reminded that there are things much more important than our portfolios, such as the health, safety and well-being of our family and friends.
Best wishes for a prosperous, healthy and safe 2025.
Sam Taylor, CIMA®, AIF®, CRPC®