What’s the story?
While we continue to favour the US over Europe, the broadening of earnings growth should lead to a broadening of equity performance. We would increase the cyclical tilt in portfolios, with a particular focus on industrials and financials. Our tactical call on China remains, as does our long-term Overweight stance on India.
1. Capitalise on expected broadening of US equity returns
In 2025, we expect developed market equities to continue to deliver positive returns, albeit at a more modest pace than in 2024. Earnings growth, which we expect to broaden in 2025, should drive equity market returns. We project earnings growth of 10% in the US and 7.5% in Europe this year. A broadening of earnings growth has historically been followed by a broadening of performance.
From a technical perspective, the secular bull market in equities is set to continue in 2025, and the US remains more attractive than Europe. However, following the US equity market’s remarkable performance over the past two years, the risk of a correction amid policy uncertainty has increased. Nevertheless, this volatility also presents opportunities to invest as the underlying fundamentals continue to strengthen.
The Trump sweep in the US election is positive for equities, and, in terms of geographic preference, it reinforces our long-held view that US equities should outperform those in Europe. The tax cuts and deregulation expected from the Trump administration should boost US economic growth. Less regulation and fiscal initiatives should benefit cyclical stocks in particular. Furthermore, as market breadth widens, the mega-cap companies are no longer expected to dominate market performance. As such, we believe that it makes sense to look beyond the ‘Magnificent 7’ mega-cap technology names and create a more diversified portfolio.
2. Increase the cyclical tilt
As cyclical stocks tend to outperform defensive stocks in a reflationary environment, it would also be appropriate now to increase the cyclical tilt in portfolios. Cyclical stocks are those that react particularly sensitively to the economic environment. Cyclical sectors are more sensitive to economic changes and benefit from greater operating leverage, so they appear well positioned to benefit from an earnings recovery.
Within the cyclical sectors, we would focus on industrials and financials. Among financial names, banks should do particularly well in a reflationary environment, as they have the strongest positive correlation with bond yields, especially the 10-year US Treasury yield, which we expect to reach 4.75% by the end of 2025. The higher yields, combined with a sharp steepening of the yield curve, especially in the US, should boost banks’ interest income and thus their profitability. Loan growth should also pick up, as the uncertainty surrounding the US presidential election has gone. We prefer US banks to European banks, since they should benefit from the revised interest rate outlook (i.e. fewer rate cuts), as well as potential deregulation in the US, which could encourage primary market activity, such as mergers and acquisitions.
We also believe that quality mid-caps should perform well in an environment with broadening market returns. There are more mid-caps in cyclical sectors, and mid-cap stocks should benefit more from the potential corporate tax cuts and deregulation under the new Trump administration than small caps. Furthermore, small caps are more negatively impacted by the prolonged high interest rate environment. However, the quality aspect is important, as higher interest rates should continue to challenge lower-quality companies.
3. Look out for opportunities in emerging markets
We see pockets of opportunities in emerging markets, namely in China and India. We have a tactical call on China, since we see upside potential from a policy stimulus and solid earnings-per-share growth in 2025, with the latter set to be the main driver of returns. However, geopolitical risks and uncertainty about what Trump’s policies will mean for China must also be acknowledged. Additionally, we maintain our long-term Overweight stance on India based on the prospect of structural growth in the future. Although we expect further pullbacks, we would view these as opportunities to invest in Indian equities.
4. Single out long-term trends and long-term winners
In the Next Generation space, we highlight the following themes: Cloud Computing & Artificial Intelligence (AI), Extended Longevity, and Future Cities. In Cloud Computing & AI, we see no signs of a bubble and foresee long-term growth in the space, which reinforces our Constructive view on the theme. We also remain Constructive on Extended Longevity, which includes subsegments such as healthcare, elderly care, food and nutrition, leisure, and financial planning. An ageing population will inevitably lead to changes in consumption patterns due to the different spending habits of older people and age-related health conditions. An increase in longevity funding also supports the investment theme. Future Cities is about addressing the structural challenges facing our cities, as well as the consequences of the rise of online shopping, the shift to working from home, and the growing threat of climate change. Moreover, the modernisation of both infrastructure and real estate is emerging as a structural growth story.
For more of our insights, including our outlook on fixed income, equities, alternative investments, Next Generation trends, and more, download our Market Outlook for 2025.