Weekly Newsletter: December 29, 2025
The market over the past eight months was, as Mary Poppins put it, “Practically perfect in every way.” Nary a month went by from April on that declined, fears of higher inflation from the tariffs never emerged as was expected, and the Fed got into the act by pouring at least a spoonful of sugar to ensure a happy ending to the year. While the pundits expected a recession this year, the latest reading on overall economic growth was among the best in a few years. Corporate earnings grew, and interest rates even fell for the third consecutive year. Overall, business and consumer spending were higher during the year, nearly the exact opposite of what was expected. The sour taste is from the jobs market, as payroll growth has slowed and unemployment has been ticking higher. Both are usually preludes to a slowing economy, which the GDP numbers clearly refute. With three nice years in the bag, what could possibly go wrong in a practically perfect market and economy?
The holiday-shortened trading of last week and this week is usually a very quiet one for economic data. The GDP figures, along with durable goods orders, are remnants of the government shutdown and provided a surprising spark to an economy that seemed to be losing steam. The GDP figure was the best in two years, and digging deeper into the report showed spending to be robust and trade that boosted the final growth figure by 1.6%. Exports rose nearly 9% while imports dropped by nearly 5%. That huge difference is unlikely to persist and could reverse some in the first half of 2026, pushing down GDP early in the year. One thing popping up recently is “prediction markets” that allow people to “bet” on a specific binary outcome (yes/no, up/down, etc.). Those markets are generally in line with historical norms of a one in five chance of a recession in any given year. Further, the average return of the market is expected to be close to double digits again. As was the case this year, valuations are near historical high levels. Earnings growth in 2025 roughly matched the returns of the market, and with expectations for another low teen earnings growth in 2026, lead many to believe a repeat of 2025 is possible.
The yield curve, or specifically the difference between two and ten-year treasury bonds, has been getting larger over the last few months. Historically, a widening spread between these two indicates a stronger economy, something the GDP figures confirm. The very flat (and for a long period of time) or inverted curve points to a recessionary environment. The curve was flat to inverted for much of the past 5 years, without the occurrence of a recession. Could this steepening also falsely point to economic strength that is rather fleeting? Maybe, but there is little in the economic data that would indicate a slowing is in the offing, meaning that the Fed may have trouble justifying further rate cuts in 2026.
The year was dominated by discussions regarding tariffs and trade, but the larger theme was AI. After running higher into the fall, the AI trade took a back seat beginning around Halloween as questions surfaced about how long before the results of all the spending will show up on income statements. Some worries focus on the “closed loop” buying of AI data centers, as well as the power/water needed for each. Those concerned seemed to be quieted this past week as many of those companies regained their leadership position in the market. There was enough of a bid into small and international stocks last week to keep the hope alive that all will not be as AIfocused in 2026. Given the high valuation of the markets in general coming into the new year, it will not be a surprise if the markets are more volatile during 2026 as they were during the first half of 2025. Whether the markets rise for a fourth consecutive year is anyone’s guess, but momentum remains bullish. If there was a lesson learned in 2025, it was not to be “scared” out of positions due to the political environment, but rather to keep an eye on the economic and company-specific news.
Wall Street will be rather quiet this week, celebrating the end of 2025 and maybe a bit of a hangover on Friday as the first trading day of the new year begins.
The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable but are opinions and do not constitute a guarantee of present or future financial market conditions.