Second Quarter 2025 Market Update

Crisis? What Crisis?

If you had checked the S&P 500 Index level on December 31st, it was sitting at $5881.63. If you then closed your laptop and did not check again until the end of June, you would probably have thought that we were in a continuation of the uptrend started in 2023.

S&P 500 12/31/2024 – $5881.63
S&P 500 6/30/2025 – $6204.95

Of course, we know otherwise:

The Tariff Tantrum

Heading into Q2, we were already in the beginning months of a new administration with no end in sight for the Ukraine-Russia war, nor the conflicts in the Middle East. The indices had started to sell off on the potential for a “trade war” with China. Still, they began to turn positive on rumors that the trade negotiation strategy would be less aggressive than anticipated.

Then came a classic “buy the rumor, sell the news” moment, as the “official” tariff strategy was announced, and the indices quickly dropped another ~8%, bringing year-to-date price drops as high as 20% within two weeks.

The big announcement on Tuesday, the 2nd of April, appeared to be the pin that finally popped the valuation bubble that had inflated over the last two years. Immediately, the “experts” were all over the news, proclaiming the devastation we would face, and the Smoot-Hawley Act became the go-to model for explaining trade policy.

As we scanned the headlines, three main themes kept showing up in some form:

Tariffs were inflationary and would keep interest rates high
Tariffs increase costs, which will hurt corporate earnings
Tariffs would plunge the economy into a deep depression, just like Smoot-Hawley did in the 1930s

Any one of these situations, were they to occur, would be enough to cause a drop in stock prices. However, each one is based on a premise that may or may not be true.

The first premise is that these tariffs would be fully implemented. Unlike most administrations, we have the advantage of knowing how the current administration has performed in the past. In the first term, tariffs were used to push for negotiating or renegotiating a trade agreement, resulting in deals with Mexico, Canada, and China.

Looking at a list from 2024, provided by World Population Review, the top ten countries with trade deficits with the US are:

China $270.4B
Mexico $157.2B
Vietnam $113.1B
Ireland $80.5B
Germany $76.4B
Taiwan $67.4B
Japan $62.6B
South Korea $60.2B
Canada $54.8B
Thailand $41.5B

If we look at the European Union collectively, it would be number two on the list, with a deficit of approximately $ 236 billion.

So, if Tariffs were previously used to get major trading partners to come to the bargaining table, it would not be unreasonable to assume that the same tactic was being used again. This is supported by the fact that after engaging with several countries after the announcement, a “pause” was announced that would run while trade agreements were being negotiated.

The argument that tariffs are inflationary is not as straightforward as one might assume. The importer pays tariffs, which are often shared with the exporter. Large importers, such as Walmart, Costco, and Apple, have tremendous purchasing power and are likely to force exporters to absorb more of the cost, rather than passing it along to the consumer. Additionally, foreign governments can make moves to devalue their currencies relative to the dollar, as has been done in the past, to offset the impact of tariffs.

The idea that tariffs will plunge us into a depression seems to be loosely based on the history of the Smoot-Hawley Act in 1930. However, the economy in 1930 was quite different than today. In 1930, the US was a net exporter of manufactured goods and had been since about 1910. Imposing tariffs at that time was a political move that led to a decline in exports and ultimately contributed to a global economic contraction.

Today, as we see on the list above, the US is a net importer, and many of our trading partners are using a combination of tariffs and non-tariff restrictions to keep their markets closed to US goods. This situation can be particularly harmful during periods of economic slowdowns, as price-conscious US consumers will tend to purchase lower-priced imported goods at the expense of domestic sources.

It appears to us that the tariffs are once again being used to facilitate new trade agreements, and the administration hopes that, in conjunction with a more favorable tax and regulatory environment, they will encourage onshoring production behind the tariff walls. While we don’t expect the US to become a net manufacturing exporter again, it wouldn’t have to to stabilize the share of citizens in the middle-income class, which has declined over the last 30 years compared with the shares of lower- and upper-income classes.

Whether these efforts will be successful or not is too early to tell. Still, the market reaction in April was certainly overblown, creating a buying opportunity for those willing to look past the headlines.

More surprises

By May, it appeared that most investors shared our view on tariffs, as the market quickly turned positive and began to recover from the April lows. The Federal Reserve meeting in May disappointed traders as the Fed held rates steady, but prices soon started their upward trajectory.

They were approaching February highs in June, when on the 13th, Israel launched surprise attacks on key military and nuclear facilities in Iran. Oil futures, which had been sitting at $65 per barrel at the beginning of the month, jumped up $8 a barrel overnight. Experts began warning of oil prices exceeding $100 per barrel if the conflict escalated.

Then, nine days after the initial attack, the conflict did escalate, when the US bombed three Iranian nuclear facilities, briefly sending oil prices over $80 per barrel. The world braced for the worst as geopolitical rhetoric heated up and Iran launched attacks on both Israel and US military bases, but on 24 June, Israel and Iran agreed to a ceasefire, and the S&P 500 set a new all-time high on Friday, June 27, 2025, reaching 6,173.07.

Earnings Season

Outside of trade and geopolitical risks, More S&P 500 Companies are Issuing Positive EPS Guidance for Q2 Than Average, according to Factset.com. S&P 500 companies reported EPS growth of 13.7% on revenues that were up 5% over the last 12 months. This was down from the 17.1% and 5.2% growth reported for Q4 2024, but still fairly robust, and better than expected.

Notably, the “Magnificent 7” reported EPS growth of 27.7%, compared to the 16% expected at the end of March. The US Healthcare sector reported the highest EPS growth rate (46.4% vs 38% expected), followed by Communication Services (31% vs 6.2%).

Energy stocks reported EPS down 16.5% over the last 12 months, which wasn’t a surprise, and real estate (-7%) and consumer staples (-5.4%) were the only other sectors reporting a decline in earnings.

Finally, Industry Analysts Project a 7.5% Increase in the S&P 500 Price over the next 12 months, surpassing the record high.

How do we navigate this ‘risk-on’ market

This suggests that there is currently no fear in the market, despite the world seemingly being closer to all-out war. This doesn’t mean that things won’t turn on a dime, I was at a Truck Stop in Utah walking my dogs when someone rolled down her window and asked me if I’d heard that we just bombed Iran. And while that event didn’t rattle the markets as much as I thought they would, the next headline might.

We currently enjoy bullish sentiment, but we never want to go “all in” or “all out” without regard for our investment goals. If you know you’ll need a certain amount of cash in two years, don’t put it in the stock market. If you want to live off distributions from your investments, don’t buy gold. If you’re going to build long-term wealth, buy the stocks of high-quality businesses and hold them for the long term.

Filter out the noise

Refer to the chart at the beginning of this letter; the S&P 500 Index fell 19% at the start of the “tariff war.” When events like this happen, folks freeze in fear. They often sell out of fear of loss, and they don’t get back in when the market gives the all-clear to do so. Once the market knows the risk is no longer a problem, a new bull run tends to kick off. We have seen this with the Fed taper tantrum in 2018, COVID in 2020, the bond bear market in 2022, and the collapse of Silicon Valley Bank in 2023.

If you got out of the market back in April, you’ve missed some strong returns since then. If, like our imaginary investor, you ignore the short-term chaos and stick with your strategy, you’re probably up for the year on a total return basis.

If you want to ensure that your holdings remain aligned with your investment objectives, we’d love to schedule a call or meeting to review everything and make any necessary adjustments before the next unexpected event occurs.

One more thing

We will close this letter with a brief note about the budget reconciliation Bill, HR 1, which was signed on July 4. While one can argue that few “big” things that come from Washington are ever “beautiful,” it does include several significant provisions that significantly impact investors, retirees, and taxpayers.

For Retirees

$6,000 Senior Tax Deduction:

Individuals aged 65+ can claim an additional $6,000 deduction.

Married couples (both 65+) can claim $12,000.

Phases out for incomes above $75,000 (single) / $150,000 (joint); no deduction after $175,000 / $250,000

Expires after 2028 unless extended.

Social Security Tax Relief:

Up to 88% of retirees may now pay zero federal tax on Social Security benefits due to the combined effect of the senior deduction and adjusted income thresholds. (our emphasis)

Medicare & HSA Changes:

Medicare enrollees can now contribute to HSAs if they have a qualifying high-deductible health plan.

New HSA limits: $8,600 (individual), $17,100 (family), with expanded uses like fitness expenses

For Investors & High Earners

Permanent Tax Cuts:

Makes the 2017 TCJA tax rates permanent for individuals and corporations.

Standard deduction increased to $15,750 (single) / $31,500 (married), indexed for inflation

Estate & Gift Tax Exemption:

Doubles the exemption to $15 million per person / $30 million per couple starting in 2026.

Annual gift exclusion raised to $19,000 per recipient

SALT Deduction Cap Relief:

Cap raised to $40,000, phasing out at $500,000 MAGI.

We’re sure we’ll be writing more on this in the coming quarters as details come more into focus, however it is wise to start incorporating what we do know into the planning process as we head into the second half of the year.

As always, it is a pleasure to serve you. We look forward to working with you as the changes keep coming fast and furious, to keep your investments aligned with your long-term goals.