In physics, the three-body problem describes the impossibility of calculating the trajectories of three independent masses because of the inherently chaotic nature of their interactions under Newtonian laws of motion and gravity. For traders and investors, the interplay of politics, economics and markets will make assaying the paths of stocks, bonds, commodities and currencies this year even harder than usual.
The election of Donald Trump introduces an unwelcome capriciousness to US policymaking, with everything from trade to regulation to cryptocurrencies looking decidedly less predictable. And while the US consumer continues to defy expectations by keeping the world’s largest economy rolling along just fine, the rest of the world is a lot less robust.
Our key message for 2025: Buckle up, it’s gonna be a roller coaster.
The Fed was the dog that didn't bark in 2024
This time last year, futures traders were expecting a wave of recession-repelling interest rate cuts from the US central bank. Monetary easing failed to materialise on anything like the scale anticipated. The same was true for 2023, with high hopes for lower borrowing costs dashed by a US Federal Reserve focused on quashing inflation.
Will the coming year deliver?
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The Fed didn’t bark last year — well, nowhere near as loudly as expected — because it didn’t have to; the economy proved unexpectedly resilient and concern about a recession faded among market soothsayers. US policymakers may be just as quiet this year — or Trump 2.0 may trigger a more proactive policy response, in either direction.
Bears throw in the towel as market reaches record
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At just shy of US$128 trillion ($174.36 trillion), the market capitalisation of global stocks reached a record last month and climbed 12% in 2024.
Jaw-dropping values for US companies including Apple (worth US$3.8 trillion, up 31% last year), Nvidia (US$3.37 trillion, +178%), Microsoft (US$3.16 trillion, +13%), Amazon.com (US$2.33 trillion, +46%) and Meta Platforms (US$1.5 trillion, +67%) may have been boosted by overblown hype about the promise of artificial intelligence, but benchmark indexes in Japan, Spain and Hong Kong all gained 14% or more.
Even stagnant Germany’s DAX advanced 19%.
There are a couple of what might be called reverse indicators, with some notable permabears throwing in the towel.
Last month saw “the lament of a bear who has come to grips with the premise that while the market has definitely been exuberant, it may not actually be altogether that irrational” from David Rosenberg.
In November, JPMorgan Chase & Co., which spent two bearish years getting the S&P 500 index wrong, switched to predicting a gain for the benchmark; its chief global market strategist, Marko Kolanovic, exited the firm in July.
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And a month ago, Citigroup pointed out short-sellers capitulating on bearish bets made investor positioning in S&P futures “completely one-sided”.
It’d be a brave portfolio manager who bet against further equity market gains this year — even if the promise of AI proves to have been overdone.
It’s Trump’s currency; it’s your problem
It’s tough to know what will be the main driver of the US dollar this year. It could be a mighty tussle between the rhetoric of the Trump administration — the president-elect has both decried the greenback’s strength and demanded the fidelity of the BRICS to its preeminence — and how the Fed responds.
Further US interest rate cuts are not a certainty; meanwhile, the rest of the world is going to have to look after itself after battling against a 6.5% rise in the dollar index last year.
A rampant dollar can cause particular strain for resource-poor nations having to pay for dollar-denominated commodities in their own weakened currencies, and with prospective trade tariffs a big concern, it’s far from clear where any respite comes from.
As John Connally said in 1971 when he was Richard Nixon's U.S. Treasury secretary: “It's our currency, but it's your problem.”
One commodity to rule them all
If there was only one gauge available to asses the overall state of the global economy, the oil price would be the best bet. It typically trades off how many logistical blockages pop up or how strong appetite from China or India is.
Demand is still very strong, but that’s less relevant currently. There’s a new determinant in the shape of overwhelming supply from the Americas — not just shale fracking from the Permian basin but also extra production from South America, including Brazil, Guyana and Venezuela.
Moreover, China’s shift to electric vehicles and increased nuclear and gas energy supply look like being permanent game-changers.
The geopolitical situation in the Middle East, along with Ukraine and other hotspots, remain a perennial problem. But OPEC+’s inability to make production caps work means that there’s no defendable line in the sand for crude.
And those output curbs will chafe particularly with Kazakhstan this year, as the central Asian nation seeks to take advantage of the additional pumping capacity coming online from its decade-long US$45 billion project to expand its largest oilfield.
Credit spreads see no evil, fear no evil
While US equity markets continue to make new highs and both growth and the US dollar appear bulletproof, there is a sense that nothing can go wrong. Markets are priced for perfection. This is readily apparent when looking at the yield spread between government and corporate bonds.
Spreads for companies with credit ratings of BB or lower have not been this compressed since 2006. That was truly a period when caution was thrown to the wind, but this time looks — ahem — different.
Corporate profits really are powering ahead, interest rates are probably headed lower, inflation is sort-of under control and the economy appears sound.
Yes, there are signs of bubbles in certain asset classes, notably banks, tobacco and auto-related debt, but of all the market barometers of the real economy, this is by far the most important one to watch.
For government debt, 3% is the new 1.5%
The days of zero yields — or even getting paid to borrow at negative levels — are a distant memory. The average 10-year government bond yield among G7 nations appears to be settling around the 3% that prevailed between 2004 and 2014, double the average nations enjoyed in the past decade.
The 10-year US Treasury currently yields about 4.5%; the consensus forecast among economists surveyed by Bloomberg is for that benchmark to remain relatively unchanged in the coming quarters, and to end the year a tad lower at 4.1%.
But the journey will matter as much as the destination — it ranged between 3.6% and 4.7% last year, after enduring a 170 basis-point swing in 2023. The steady state anticipated by economists looks unlikely to be achieved.
Still fighting the last war?
It’s tempting to say that runaway consumer prices have been subdued and central banks should swivel to worrying more about weakening growth. But inflation ain’t quite beaten yet.
Looking as far into the future as is practical, using a market-expectations gauge that central bankers often favor because it at least trades with some liquidity, is quite revealing about how successful the monetary guardians are expected to be in meeting their 2% target.
The swaps market suggests that the European Central Bank doesn’t have an inflation problem, but the Bank of England has some wood still to chop.
What’s most remarkable, though, is that even as the US economy continues to surprise on the upside, the Fed isn’t perceived to be facing sticky prices.
Whether the collective credibility of policymakers has been irreparably damaged by the surge in prices in recent years remains to be seen.
Post-pandemic manufacturing is in the doldrums
Manufacturing is often viewed as the best gauge for how healthy an economy really is. If that still stands, it’s evident that five of the world’s largest economies are in trouble as the sugar rush of pandemic fiscal stimulus wears off.
Nowhere is struggling as much as Germany and France. Much of that is down to a lackluster Chinese economy, but much higher energy costs are still playing a big part. Finding a way out of that hole will be the European Union’s major task for 2025.
Where next for Bitcoin?
“Bitcoin 100K — but still, after 15 years, no legitimate use cases,” Nobel prize-winning economist Paul Krugman posted on the Bluesky platform last month after the digital currency reached a record, breaching US$100,000 for the first time.
He’s right — despite the surge in values in recent months, the cryptocurrency world is still a solution in search of a problem, and remains largely the playground of fraudsters, scam artists and money-launderers.
The latest jump at least has an identifiable prompt: Hopes that the Trump administration will be more accommodating to crypto’s various bids for official recognition as a viable store of value are likely to be realised under Paul Atkins, the incoming head of the Securities & Exchange Commission who is perceived to be warmer to the market than his predecessor, Gary Gensler.
And even though the US is unlikely to stockpile a Bitcoin reserve — an idea floated by the president-elect during his campaign, the regulatory environment is almost certain to be less hostile.
But the links between digital currencies and anything even remotely resembling the fundamentals that typically drive the values of their reality-based counterparts remain tenuous at best, nonexistent at worst — which makes any effort to predict where Bitcoin will trade an exercise in futility.
Charts: Bloomberg
