Happy New Year! 2025 is off to a choppy start as investors are searching for signs for what the new year will bring. In December we saw the market react negatively to the Fed’s updated forecast of just 2 expected interest rate cuts this year instead of 4. This update was due to continuing strength in US economic numbers and concern for the reemergence of inflation. The December jobs report, released this morning, added to those concerns as 256,000 jobs were created last month versus an expected 155,000. The unemployment rate fell to 4.1%.
At the same time, the Atlanta Fed estimates the US economy grew at an annualized rate of 2.7% in the 4th quarter. These stronger than expected economic numbers are making it difficult for the Fed to reach its 2.0% inflation target. We have always felt that they would not reach 2.0% and would eventually move the goalposts to a higher long-term inflation target.
So, the economy seems to be doing well enough by the numbers and may not need the help of lower interest rates. Also, the Fed may be hesitant to cut interest rates any further as many of the policies promoted by the new administration are likely to be inflationary.
All this to say the negative market reaction this week has been mainly about investors adjusting to the likelihood of higher interest rates for longer.
I’d like to add one more thing that is beginning to come and go as a concern for markets going forward. Worries over government budget deficits are starting to appear more often in discussions of interest rates and markets. Last fiscal year (10/1/23 – 9/30/24) the federal budget deficit was almost $2.0 trillion and is expected to be roughly the same this year. However, in December it was reported that in the first 2 months of fiscal year 2025 (October and November), the US government had already borrowed $624 billion. This puts us way ahead of schedule for a $2.0 trillion deficit this year.
https://www.crfb.org/press-releases/treasury-624-billion-deficit-first-two-months-fiscal-year-2025
The US government was already expecting to sell about $5 trillion of US treasuries this year – $2 trillion to cover 2025 deficit spending and $3 trillion to pay investors who own treasuries that will mature this year. There is increasing concern in the markets that investor appetite for US treasuries may eventually wane, forcing interest rates even higher to attract buyers (lenders).
I want to be clear that the economy is not currently in a position that has historically been associated with major stock market declines. However, a correction of 10% – 15% would not be unusual.
On Monday our proprietary risk model lowered its recommended tactical risk profile from a moderate stance to a more conservative one for now.
Have a great weekend.
Jack C. Harmon II, CFP®, CIMA
Principal, Harmon Financial Advisors
Registered Principal, Raymond James Financial Services
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