Why 2025 could be the year of unloved markets

It was the year half the world’s population went to the polls – a year when voters took their revenge, which sets us up for an intriguing 2025.

In the UK, the Conservative party was ejected after 14 years in power. In the US, Donald Trump returns to the White House with the Republicans in charge of the Senate and the House of Representatives. Others, like Narendra Modi in India and Emmanuel Macron in France, took a surprise pummelling. 

Commentators have written reams explaining the poll results, but I think a large factor is the continuing after-effects of Covid and the impact of that double-digit inflation we saw in 2022. 

Between them, central banks and governments may have managed a soft landing and brought down inflation. But too many voters were still feeling sore about soaring energy and shopping bills. They were in no mood for forgiveness and amenable to the narrative that the ruling incumbents were to blame and ought to pay. 

Ironically, the policies of the election winners are more likely to fuel inflation, not suppress it – whether through fiscal expansion, imposing tariffs or lifting the minimum wage. The details may differ from country to country, but the result will be the same: higher inflation. It may not hit double digits, but returning sustainably to the sub-2% levels of the post financial crisis era of ‘quantitative easing’ looks a stretch. 

Ironically, the policies of the election winners are more likely to fuel inflation, not suppress it.

This can actually be a positive for countries with large deficits because they can inflate away some of their debt. And for those enjoying real pay increases, more job security and more investment in the environment in which they work, 2025 could be a good year.  

We are likely to see a greater return to labour and probably lower returns to capital. That means investors in aggregate – and if you are a passive investor, that is you – may face disappointment. Private markets in particular could struggle, but I will return to this at the end.

To my mind, the best returns in the year ahead are likely to come from unfashionable areas, like China, and from strong security selection, the latter from fund managers who can identify the companies successfully deploying technology, making smart efficiencies and growing their earnings, outperforming market expectations.

China recovery

China has been slowest to recover from Covid. Until quite recently it has been commonly viewed as uninvestable, but that is changing. Recent stimulus activity has encouraged people to revisit the investment case there. Much has been made of China’s property crisis – pinned, perhaps somewhat unfairly, on the government.

I believe China is very deliberately moving towards a steady growth model and away from the boom-and-bust profile that has characterised its approach since joining the World Trade Organisation in 2001. The property bubble needed bursting and better now than later. 

Trump’s tariff threats may look like a dampener on Chinese growth prospects, but let’s see what comes. Remember, the US represents only 14.4%¹ of the Chinese export market now, compared with 19% in 2017². China is much more self-sufficient today. Major structural changes are taking place there that should deliver steady, strong, sustainable growth, which in turn should re-energise consumer confidence and trigger a reassessment by global investors. 

Emerging markets and re-emerging UK 

As the property market in China starts to stabilise and we see ongoing investment in South East Asia more widely – coupled with infrastructure investments in the US and beyond – I believe we will see upward pressure on commodity prices.

At the same time, I believe a US economic strategy anchored by fiscal stimulus will see a downward trajectory resume for the dollar. That could make emerging markets another big winner of 2025, although markets such as India look expensive, so, again, security selection will matter. 

Since 2016, the UK has been about as fashionable as sweater vests, bell-bottom trousers and shirts with long pointy collars.

Since 2016, the UK has been about as fashionable as sweater vests, bell-bottom trousers and shirts with long pointy collars. But the wheel turns. UK equities have had a solid year. They have been outshone by US equities (or a small subset of US equities). There is more in the tank here, though, making the prospects for positive returns in 2025 and 2026 look good. 

Elsewhere

If you want solid performers for a diversified portfolio, UK and Japanese equities seem set to deliver. In fixed income, active high-yield strategies are appealing because of the focus on credit selection. With uncertainty around inflation, I think you will continue to be paid to focus more on short-dated strategies, too. 

It is a lot to ask of the US to repeat this year’s performance. As I am bearish on the US dollar going into 2025, I think it makes sense to revisit allocations. If you are invested in passive global strategies, you will have historically high concentration in the US and in Magnificent Sevenstocks in particular. I think smaller companies look better placed to generate strong returns. Long-short US strategies should have an edge in generating extra return to compensate for any slowdown. As for Europe, it ends the year in a really tough spot. I would argue that the safest way to navigate the region will be as a value investor. 

Unfathomable private markets

And that brings me to private markets. I expected this sector to struggle this year. Its appeal is unfathomable to me. In my view, all of the easy money has been made. Inflation’s obduracy should mean interest rates staying higher for longer, and that is not good for either private equity or credit. These markets have been able to flourish because so often valuations are opaque. 

For too long private markets have been seen as a diversifier in portfolios. They are not. They are exposed to exactly the same economic factors as any public market – it is just that the price discovery process is different. Once people really start to interrogate valuations and stop giving the sector the benefit of the doubt, it could face a painful reckoning. 

Given a choice between the unfashionable and the unfathomable, I would take the sweater vest and bell-bottoms any day.