The first quarter of 2025 brought significant shifts in the investment landscape, with international markets outperforming the US, new tariff policies creating market volatility, and increasing concerns about recession risk.
In our latest market review, Instrumental Wealth's CEO David S. Silver, CFP®, CEPA® and Chief Investment Officer Matt Harbert, CFA® provided a comprehensive analysis of these developments and what they might mean for investors moving forward.
Below, we break down the key insights to help you understand the current economic and market environment. Play the video or see the transcript summary organized by sections. Each topic has screenshots from the presentation and hyperlinked timestamps to take you straight to that part of the recording.
Table of Contents:
- Equity Markets: International Outperformance & Currency Impact
- The Magnificent 7 Reset & Diversification Benefits
- Economic Landscape: Inflation & Labor Market
- Federal Reserve & GDP Growth Analysis
- Tariff Policies & Market Impact
- Future Outlook
- Key Takeaways for Investors
Equity Markets: International Outperformance & Currency Impact (03:00)
The first quarter of 2025 saw a notable reversal in market leadership, with international equities outperforming US equities for the first time in several years. Key observations include:
- Developed international markets gained 7.7% (in USD terms) while US large caps declined 12%
- Emerging markets showed modest gains of 0.36%, still outperforming all US equity segments
- US mid caps fell 13.75% and US small caps dropped nearly a concerning 18%
The currency effect played a crucial role in this performance divergence:
- International markets actually posted negative returns in their local currencies (-1.7% for developed markets)
- US dollar depreciation of 9.4% year-to-date boosted returns for US-based investors by approximately 9.6%
- This currency impact transformed what would have been negative local returns into positive dollar-denominated performance
The valuation gap between US and international markets has begun to narrow after reaching extreme levels:
- Historically, international equities have traded at an 18% discount to US equities over the past 20 years
- This spread widened to nearly 40% by the end of 2024
- Recent market corrections have reduced this gap by about 10%, though US equities remain richly valued by comparison
The Magnificent 7 Reset & Diversification Benefits (08:00)
The "Magnificent 7" technology stocks (Apple, Microsoft, Google, Amazon, Nvidia, Meta, and Tesla) have been driving US market performance for nearly two years, but this quarter marked a significant shift:
- Through December 2024, the Magnificent 7 outperformed the remaining 493 S&P 500 companies by nearly 33%
- In Q1 2025, the Magnificent 7 fell approximately 15% while the rest of the index remained positive at +1.2%
- This correction reduced market concentration, with the top 10 holdings in the S&P 500 dropping from 37% to 33%
- Nvidia's P/E ratio fell by nearly half, with the overall mega-cap tech category declining from 31x to 21x earnings
The market turbulence highlighted the importance of portfolio diversification across asset classes:
- Most fixed income categories delivered positive returns despite equity market struggles
- Global bonds performed particularly well due to the added currency boost
- High-yield bonds remained resilient, ending essentially flat for the quarter
- Real assets increased approximately 3%, providing additional stability to diversified portfolios
Economic Landscape: Inflation & Labor Market (15:00)
Inflation continued its gradual downward trend but remained stubbornly above the Federal Reserve's 2% target:
- CPI: 2.4% headline, 2.8% core
- PCE Index: 2.55% headline, 2.8% core
- March data showed improvement with headline CPI declining 0.1% month-over-month
- Gasoline prices fell 6.3% in March, contributing to the monthly decline
- Shelter costs remained elevated at 4% year-over-year but showed the slowest monthly increase in six months (0.2%)
Meanwhile, the labor market demonstrated remarkable resilience despite growing economic uncertainties:
- Job openings and hiring continued above long-term averages
- Monthly payroll additions averaged just under 200,000 new jobs in 2025
- Unemployment stood at 4.2%—rising slightly but still below historical averages
- Labor market achieved balance with approximately one job opening per unemployed person
- Quit rates remained above average, suggesting worker confidence in finding new employment
Federal Reserve & GDP Growth Analysis (20:00)
The Federal Reserve has maintained its target range at 4.25-4.5% since its last 25 basis point cut in December, now facing contradictory economic signals:
- Economic growth projections suggest slowing activity and higher recession probability
- New tariff and immigration policies create additional upward pressure on prices
- Markets are pricing in a 96% probability that the Fed will keep rates unchanged at its next meeting
- Rate cuts are still expected in 2025 but likely at a slower pace than initially anticipated
- The Fed has adopted a "wait and see" approach to evaluate the impact of new policies
Q4 2024 GDP showed mixed signals for economic momentum:
- Overall growth reached 2.4%, primarily driven by strong personal consumption (4%)
- Private investment contracted 5.6%—a potential warning sign for future growth
- Consumption contributed 2.7 percentage points to the 2.4% growth figure, offsetting investment weakness
- Retail sales data for Q1 2025 showed inconsistency: January (-1%), February (+0.22%), March (+1.43%)
- Personal spending showed weakness through February, recovering slightly from a January decline
Tariff Policies & Market Impact (25:00)
The quarter's most significant development was the implementation of new tariff policies under the International Emergency Economic Powers Act (IEEPA):
- 10% baseline tariff applied to all imports to the United States
- Additional "reciprocal tariffs" ranging from 10% to 50% depending on the country
- Combined tariffs on China reached 145% (with China retaliating with tariffs up to 125% on US goods)
- 90-day pause implemented on most reciprocal tariffs to allow for negotiations
- Controversy emerged regarding calculation methods for reciprocal tariffs, with some based on trade deficits rather than actual tariff rates
The market response was immediate and severe:
- US equities fell nearly 10% in the week following the announcement
- The VIX volatility index spiked to 45%—the highest level since the 2020 pandemic
- Consumer sentiment plunged from 74 to 50 in short order
- Small business optimism declined from 105 to 97
- US dollar depreciation accelerated, suggesting waning international confidence
Future Outlook (35:00)
The new tariff environment has raised several significant concerns looking forward:
- Elevated recession risk: Economists have increased recession probability estimates to 35-60% for 2025, up significantly from earlier projections
- Inflation pressure: Economists at Goldman Sachs estimate each 1% rise in effective tariff rates could increase core PCE by 0.1%, potentially adding 1.5% to inflation
- Business uncertainty: Companies may delay investments and hiring until policy direction becomes clearer
- Consumer impact: Higher prices could dampen consumption, the primary driver of economic growth
- Further tariff developments: Additional announcements are likely as negotiations progress or stall
Regarding the international versus US market outlook:
- International markets maintain their valuation advantage over US equities
- Currency fluctuations will continue to play a major role in relative performance
- The high level of uncertainty makes confident predictions difficult
- As our CIO Matt Harbert noted: "I wouldn't take big bets one way or another because we just don't know in this environment"
Key Takeaways for Investors
- Diversification remains crucial: The quarter demonstrated how diversified portfolios with international exposure, fixed income, and real assets could weather volatility better than concentrated US equity positions.
- Tariff impacts will take time to fully materialize: Higher prices may create headwinds for economic growth and put pressure on the Fed's rate-cutting plans.
- Recession risk has increased: While not a certainty, the probability of recession in 2025 has risen significantly due to tariff impacts and broader economic uncertainties.
- Currency effects matter: For US investors, currency movements can dramatically impact international investment returns, as demonstrated by this quarter's performance.
- Market concentration is declining: The correction in technology stocks has begun to reduce the extreme concentration in US indices, potentially creating a more balanced market environment going forward.
As economic and market conditions continue to evolve, maintaining a disciplined, diversified approach while avoiding overreaction to short-term volatility remains the prudent strategy for long-term investors.
This market commentary is based on our Q1 2025 Market & Economic Update Live Event featuring CEO David Silver and CIO Matt Harbert. For personalized guidance on how these developments may impact your investment strategy, please contact us.
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Instrumental Wealth is an investment adviser in Tampa, Florida. Instrumental Wealth is registered with the Securities and Exchange Commission (SEC). Registration of an investment adviser does not imply any specific level of skill or training and does not constitute an endorsement of the firm by the Commission. A copy of Instrumental Wealth's current written disclosure brochure is available through the SEC's website.
Not an offer: This document does not constitute advice or a recommendation or offer to sell or a solicitation to deal in any security or financial product. It is provided for information purposes only and on the understanding that the recipient has knowledge and experience to understand and make an evaluation of the information, the risks associated therewith, and any related legal, tax, or other material considerations. To the extent that the reader has any questions regarding the applicability of this information to their specific situation, they are encouraged to contact David Silver or consult with the professional advisor of their choosing.