2024—Another rise in excess of 20%

One year ago, I mentioned, “Rate cuts that occur because the Fed ‘can,’ not because they ‘must,’ is the preferred path” for investors.

It’s not that I have special insights when peering into the future, and I have yet to find anyone who can consistently and accurately forecast peaks and valleys in the stock market.

But I recognize that Federal Reserve rate cuts in response to weak economic growth (the “must” cut scenario) have historically failed to spur market gains.

For example, rate cuts by the Fed that were tied to recessions in 1974, 1990, 2001, and 2008 failed to prevent a slide in stocks until investors anticipated an economic upturn.

Last year, Fed officials indicated the possibility of rate cuts throughout the year, not due to fears of a damaging recession, but because they correctly anticipated a slowdown in the rate of inflation (the “can” cut scenario).

Prices are still elevated, and inflation continues to exceed the Federal Reserve’s annual target of 2%. However, the inflation rate did ease during the year, which encouraged the Fed to take action in September. This led to three consecutive reductions in interest rates.

By the end of the year, the Fed had lowered the fed funds rate by a full percentage point to 4.25 – 4.50%.

The economy continues to expand, and with it, most major corporations are generating significant profits.

Simply put, an easier monetary policy combined with economic growth and rising corporate profits fueled the second consecutive annual gain of over 20% in the S&P 500. This is the first such back-to-back increase since the late 1990s, according to The Wall Street Journal.

Other catalysts added to the advance, but the economic fundamentals played a significant role in last year’s returns.

Source: The Wall Street Journal, MSCI.com, Bloomberg, MarketWatch
MTD returns: November 29, 2024–December 31, 2024
YTD returns: December 29, 2023–December 31, 2024
**in US dollars

Nonetheless, I believe it’s important to highlight the difference in performance between the Dow Jones Industrial Average and the S&P 500 Index in 2024. This discrepancy can be attributed in part to the differing methodologies used to calculate these indexes.

Additionally, the surge in mega-cap technology stocks significantly contributed to the growth of the S&P 500 Index this year.

According to Barron’s and Dow Jones Market Data, seven large tech firms known as the Magnificent 7 made up over half the gains in the S&P 500 Index, a carryover of 2023’s performance.

Two steps forward, one step back, two steps forward

Although volatility can be unsettling, it is often temporary. Last year’s maximum peak-to-trough pullback for the S&P 500 Index amounted to just under 9%, according to S&P data from the St. Louis Federal Reserve. Volatility was most likely tied to a shift in monetary policy.

Nonetheless, investors quickly shifted their focus back to U.S. economic fundamentals, and stocks notched new highs.

The new year

As we gear up for 2025, many of the major themes that drove the market higher last year remain in place. The economy is expanding, and corporate profits are expected to remain on an upward trajectory. Although the Fed is eyeing fewer rate cuts this year, it isn’t currently considering rate hikes.

Furthermore, the incoming Trump Administration is expected to promote business-friendly policies such as deregulation, which will likely benefit both the economy and corporate profits. We may see a reduction in the corporate tax rate, while additional corporate stock buybacks are expected to underpin stocks.

Nonetheless, no one can accurately foretell the future. That’s a given.

What are some potential pitfalls that might stymie investors in 2025?

For starters, a rebound in inflation could force the Fed to raise interest rates. Such a move would likely generate uncertainty for a market that is richly valued and priced for perfection. On the other hand, if the Fed is too cautious and misjudges the economy, a deteriorating economic outlook could quickly hamper corporate profits.

Meanwhile, pro-business policies that are expected to be ushered in by the new president bolstered optimism following the election.

But if soon-to-be President Trump enacts sweeping tariffs, we may see a bump in inflation that is accompanied by slower economic growth. In 2018, Trump was more selective as he enacted tariffs, which generated market volatility and uncertainty.

Despite multiple Fed rate cuts last year, longer-term Treasury bond yields turned significantly higher over the last three months amid slower progress on inflation, upbeat economic growth, and a stubbornly high federal deficit.

A continued increase in yields could pose a greater challenge for stocks.

A diversified portfolio cannot completely shelter you from market pullbacks, but it can help lower volatility and has historically been the most effective path to achieve one’s financial goals.

Our approach is guided not only by our experience but also by the weight of academic research. We recognize that stocks are not immune to periods of subpar returns, but patient and disciplined investors have historically been rewarded.