2025: Policy Shifts to Compete with Fundamentals
By Dr. JoAnne Feeney, Partner & Portfolio Manager
Following two extraordinary years, prospects for 2025 may have investors tilting towards caution rather than exuberance. Repositioning at the end of 2024 may have been a signal of those concerns, as investors trimmed many tech and consumer stocks that paid off so handsomely since the fall of 2022. With a new administration coming in, investors are scrambling to determine how potential policy changes may shake up the economic order. Changes are expected in the form of new fiscal priorities and new trade and immigration restrictions. The regulatory environment, too, is likely to take on a different hue, and likely positive for most. Monetary policy will inevitably adjust to whatever new realities emerge. And while such changes may necessitate adjustments to portfolio positions, none of those changes matter unless they impact company profit prospects. Among those, we are still likely to see innovation, demographics, consumer needs, and a host of other fundamental drivers providing opportunities that in many cases will overwhelm shifts in macro policies.
Any policy changes are likely to take time and to be full of compromises—given the narrow Republican majorities. Higher tariffs on imported goods, threatened by President-Elect Trump to reach as high as 60% for China, 25% for Mexico and Canada, and 10% for the rest of the world, would certainly hurt consumers and those businesses using imported inputs, but would help local competitors. And while the net effect would be negative, we think it unlikely that such draconian measures will be taken. We would expect more surgical levies to target egregious cases of dumping and for national security reasons, as have been effected over the last two administrations (and before). If, however, we were to see the administration moving inexorably toward across-the-board 10% tariffs, we would shift holdings more toward companies with less use for imported inputs and would become more cautious about consumer spending.
Restrictions on immigration and mass deportations would largely impact service industries (restaurants, hotels, etc.), construction, and agriculture. The US economy has benefited significantly from immigrant labor not just in the last year or so, particularly, but since its founding (of course), but as cultural pressures mount, congress may finally act to address the many flaws in the system. We could see wage pressure increasing if the flow of low-cost immigrant labor is reduced. (In fact, this started several months ago under Biden.) But if mass deportations occur, wages in some sectors will see a significant increase. Nonetheless, the costs and logistical challenges of following through on this campaign promise seem far too high, so it’s more likely we will see lots of talk, but little action. Nevertheless, were something significant to appear more likely, we would adjust expectations for profits in the affected industries and we would also expect upward pressure on wages and so inflation, and potentially to the point the Federal Reserve could react. The market would need, once again, to reduce its expectations for Fed rate cuts.
Fiscal policy shifts are likely to face significant hurdles from a nearly evenly split House. We expect the Trump tax cuts will be extended, but hopes for another reduction in the corporate tax rate are likely to be dashed. There are enough members who object to increasing the deficit so they can return to traditional Republican roots in budget restraint. But significant spending cuts, despite the newly created Department of Government Efficiency, are likely to prove challenging. There is so little discretionary spending in the federal budget that even large cuts to various agencies are unlikely to dent the deficit and debt. But specific areas of funding will certainly take a hit. It is no secret that the new leadership is less favorably inclined to support alternative energy efforts, for example. We have never been tempted to invest in areas heavily dependent on government largess – it can be very fleeting, as we are about to see.
Unlike those broad macro policies, a more accommodating stance on regulation is likely to directly benefit affected companies. Less banking regulation is likely on its way, for example, and investors bid up those stocks in the aftermath of the election. Fewer restrictions on the fossil fuel sector, despite last-ditch efforts to limit drilling from the current team, should enable supplies to reach greater levels than otherwise. Easing the regulatory burden would speed new home construction, which has faced shortages for years, although most such regulation is set at the local level, not at the Federal level. Companies pursuing mergers and acquisitions will receive more favorable treatment, and this will raise the value of both target companies, who perhaps lack the scale to go it alone, and their acquirers, who could benefit from product or R&D complementarities. The investing opportunities here are numerous, and we are well positioned across our portfolio strategies.
The strength of the US economy, and the innovation at its core, has powered stocks higher over many decades, and was especially notable in the last two years. Not only has consumer spending remained more robust than some had expected, but the boost from investments in generative artificial intelligence (AI) has increased the growth prospects for many technology, consumer, healthcare, and communications companies. Among healthcare and industrial companies, the rise in interest rates, as the Fed sought to get inflation under control, inhibited investments in new projects. As rates have begun to come down, those pressures are abating (even if rates fall less than some hope). Changes in fiscal, trade, labor, and regulatory policies may raise the costs of doing business for some, but will likely lower them for others. With winners and losers likely determined by company-specific developments and asymmetric policy impacts, it looks like 2025 will be a year when careful stock selection, rather than index investing, should pay dividends.
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