Weekly Market Update: January 6, 2025

The new year begins with some unanswered questions for the Federal Reserve. The biggest one is whether inflation will remain a problem for the central bank in 2025. That is because the pace of price growth, which eased over the summer months, reaccelerated some this past fall, driven, in part, by continued economic growth over the second half of the year. The gross domestic product expanded by an estimated 3.1% in the third quarter, and the consensus forecast for the final quarter has been revised higher, with the strength of the consumer sector powering the advance. 

Then there is the forthcoming change of leadership in Washington, D.C. President-elect Trump, backed by Republican control of both chambers of Congress (a slim majority, though, in the House of Representatives), plans to implement some pro-growth policies (i.e., tax cuts and rollback of regulations) that may put upward pressure on prices. The threat of increased tariffs on international trade from the Trump Administration also could drive the prices paid for goods produced overseas higher. 

Wall Street thinks inflation is again firming. Despite the Federal Reserve reducing the federal funds rate by a full-percentage point this fall, to 4.25%-4.50%, longer term Treasury yields jumped notably, with the rate on the 10-year Treasury note topping the 4.60% mark in late December. That was nearly 100 basis points above the level it was yielding on September 18th when the Fed began cutting the benchmark short-term interest rate. This has not gone unnoticed by the Federal Reserve, with the lead bank reducing its forecast for 2025 interest-rate cuts from four to two at its December monetary policy meeting. 

The rise in Treasury yields is again pushing longer-term lending rates higher. Indeed, the average rate on the 30-year fixed mortgage is still well above the 7.00% mark. This may hurt the performance of the industrial and homebuilding sectors in 2025. According to the Institute for Supply Management, the manufacturing sector has been in recession since the latter part of 2022.

Conclusion: With stocks facing some headwinds in early 2025, including rising Treasury yields and a less dovish Federal Reserve, we think a portfolio consisting mostly of high-quality stocks and cash-equivalent securities is a prudent investment strategy.

Source: ValueLine.com