2025 will be the year of the wood snake according to the Chinese horoscope. Capital markets could remain volatile, rising and falling as geopolitical and macroeconomic developments unfold.
As this first quarter-century draws to a close, uncertainty is rife, fuelled by the election of Donald Trump in the United States, the collapse of Bachar al-Assad’s regime in Syria and the reshuffling in the Middle-East, the conflict in Ukraine which is dragging on, and the formation of new governments on either side of the Rhine.
In our view, the lack of visibility across capital markets comes with a higher probability of tail risks materialising over the next few months, compared to 2024. In this environment, flexibility and selectivity will be the key to navigating markets.
Don't fight... Trump
America’s 47th President, known to be unpredictable, has set out to roll-out a programme that is disruptive, openly-protectionist, pro-cyclical and potentially inflationary. With one watchword: “America first”.
By tackling the country’s deficits – the public deficit and balance of trade - while promising large-scale deregulation, Donald Trump intends to make deep transformations to the structure of the American economy.
As far as tariffs are concerned, it is possible that the new President is using these threats to gain the upper hand in trade negotiations that are likely to be tough, with no intention of applying these customs duties - or if so, to a lesser extent than he initially brandished.
An open and durable trade war between the United States and China seems rather unlikely. Beijing has plenty of assets up its sleeve to weigh in on these discussions, including a very healthy capital account. Europe, on the other hand, could prove a more vulnerable target.
If Donald Trump only threatens to raise tariffs, with zero or little consequences, while focusing on rebalancing the country’s accounts, the impact on interest rates and inflation should be limited in our view.
Supported by an accommodative fiscal policy, American companies will be the winners. M&A activity could rise as the environment becomes more conducive to such deals.
We are mindful that the promises made by the new U.S. President usher in a great deal of uncertainty, particularly as he will not be looking to win a third mandate. Questions are also being raised on his actual room for manoeuvre, particularly on legislative matters.
“Value stocks and US small caps are back in favour, at the expense of Growth”
Assets to look out for in 2025
As record inflows into U.S. equity funds have shown us recently, investors only have eyes for American assets. The pro-growth measures expected to be implemented by the new President are raising high hopes. The successful roll-out of the candidate’s programme has now been fully priced in, leaving little room for potential disappointments.
This upbeat investor sentiment is reflected in the record-high valuations reached by U.S. equities, which are now almost “priced to perfection”. This is a risk that requires very active steering.
Amid high valuation dispersion, a market rotation has begun between regions, asset classes, sectors, but also within sectors. Value stocks and U.S. small caps are back in favour, at the expense of Growth. Cyclicals are now back in demand, overshadowing defensive stocks.
The macroeconomic uncoupling, with lacklustre growth in Europe contrasting with economic dynamism and a wave of optimism in America, is now at work. This is prompting us to adopt a constructive view on American markets, though their trajectories could, nevertheless, prove erratic.
Faced with such a consensual scenario and a disruptive programme, the US equity market is likely to see a change of leadership in 2025; we therefore prefer companies exposed to domestic growth and that are rather immune to rising tariffs. We also favour companies that stand to gain from a stronger dollar after Donald Trump takes office.
As far as credit markets are concerned, both the U.S. and Europe seem attractive in terms of risk/return. In the Old Continent, compressed spreads reflect a moderate default risk - a sign that companies are financially sound. Over the next few months, the two performance drivers will be attractive carry yields and the potential for rate cuts.
ESG is dead, long live ESG
At first sight, Donald Trump’s re-election is not good news for the planet. Elon Musk, who will lead a new “Department of Government Efficiency” has set out to revise Joe Biden’s energy transition investment plan. Butcould the Trump administration ultimately be pragmatic?
Elon Musk, owner of Tesla, also sells electric vehicles. Chris Wight, appointed to lead the U.S. Energy Department, may be a climate-change sceptic but he believes in geothermal and nuclear power. Furthermore, the CEO of Exxon Mobil has argued in favour of the United States remaining a signatory of the Paris Agreement, to continue to benefit from tax credits and because the group has already undertaken major investments.
With ESG under attack in the United States, Europe will have a key role to play in supporting the transition to a low-carbon economy, which is urgently needed to limit global warming.
Double materiality, which considers both the financial and extra-financial performances of a company, will take on greater importance as a prism through which to invest.
“With ESG under attack in the United States, Europe will have a key role to play in supporting the transition to a low-carbon economy”.
Grounds for hope in Europe
Europe is trading at a historic discount relative to the United States, with a P/E of 13.7x expected 2025 earnings, versus a P/E of 22.2x in America* – which the earnings momentum cannot justify. Entirely and indiscriminately overlooked by investors who believe it lacks catalysts, the Old Continent could, however, benefit from several drivers able to kick start growth.
Pessimism around Europe is so high that very little would be needed for European equities to rebound: a stimulus plan boosting the Chinese economy, a resolution of the conflict in Ukraine, an economic wake-up call in Europe, or an end to the political crisis in Germany and France could reverse investor sentiment.
As for the free-trade agreement between the European Union and the Mercosur countries, the deal is causing much ink to flow and heated political debates but will ultimately have little economic and financial impact. At company level, default rates could rise very gradually but they are still at historically low levels.
We believe that the acceleration of the ECB’s rate cutting cycle will support European equity valuations which are very reasonable at present. These stocks can generate particularly high income, including dividends and stock buybacks.
“Pessimism around Europe is so high that very little would be needed for European equities to rebound”
Earnings should continue to grow, alongside a positive momentum supporting mega-trends such as digitalisation, electrification and healthcare. Some ailing markets - such as construction - could benefit from a gradual recovery. Furthermore, companies with high pricing power are well-positioned to stay ahead in the market.
The current appetite for U.S. assets should not eclipse the potential that Europe still has to offer. Amid deep geopolitical and economic transformations, stock selection will be critical to delivering performances across capital markets in 2025.
*Sources: Sycomore AM; Bloomberg. Data as of 12/12/2024.
The opinions, estimates or forecasts regarding market trends reflect our own judgement and may change without notice, as can our assertions on market trends, which are founded upon current market conditions. SycomoreAM offers no guarantee whatsoever as to their realisation. Any reference to specific securities and to their issuers is purely for information purposes and should be construed as a recommendation to buy or sell these securities. We recommend that you obtain detailed information and read it with care before making an investment decision.