Top of the Morning: CIO Strategy Snapshot - Mid-year checkup
19:43 Share

Hi everyone, Dan Cassidy here. Welcome back to Top of the Morning on the UBS Market Moves podcast channel. We are at the midpoint of the 2025 calendar year and quite a year it has been thus far as we now embark on the second half of 2025. There are many things to watch and be prepared for. This includes tax policy and tariffs, Fed policy,

economic growth, and of course, earnings. So joining us on this Monday morning for the CIO Strategy Snapshot to discuss this all. Glad to welcome back Jason Draho, Head of Asset Allocation for the Americas with the UBS Chief Investment Office. Jason, thank you for joining us as always. A lot to discuss. So looking forward to our conversation this morning.

Good morning, Dan. Happy Monday. Good to be here at the midpoint of the year. It's been quite an eventful year so far. We'll see what the second half of the year brings. Exactly. And it has moved quite quickly, as I alluded to a bit earlier, though. Jason, let's perhaps begin with market performance, as that has caught the eyes of many, especially of late and throughout the course of the first half of 2025. What are some takeaways? What is most notable in your view?

Well, we've been officially in summer for now just over a week, and it certainly feels like the markets are in kind of summer heat melt-up mode. Just last week, the S&P 500 was up 3.4%. The NASDAQ 100 was up 4.2%. Both indices are now at all-time highs. May cap tech stocks were up about 6% last week. So very kind of strong performance.

If we think about the halfway point of the year, we'll see what happens today, but the future is as of this point in time, we're pointing to the S&P and every market's going higher still. But through Friday's close on the first half of the year, the S&P 100 total return is 5.6%. It's

If you double that roughly, think about for the full year, you're at around 11% total return for the year. That's right on track for the kind of a historically average year. You know, the long-term, the annual calendar year average for the S&Ps is around 10% to 11%. So in some way, it's a very average, normal year, although I think it certainly hasn't felt normal as we've kind of gone through this year, given all the gyrations and sort of policy developments.

If we turn to other asset classes, we see your treasury yields have been falling. The 10-year yield is down to four and a quarter. It's been kind of drip, drip, drip, sort of going lower in recent weeks. The U.S. dollar keeps falling, you know, again, sort of in a bit of a risk-off, well, not a risk-off environment, but like kind of a dollar or de-dollarization trend continues there.

I know oil after spiking a couple of weeks ago is now back within a few dollars to where it was at the beginning of June. So very much kind of a positive risk on environment overall. And if you're now at the halfway point of the year, just look at the numbers. It seems like it's kind of a relatively uneventful, very normal year, even though that's clearly not what has played out over the past six months.

So, Jason, what would you identify as being the main factors driving this performance across markets? I'll focus mostly on just the recent performance of last week, last few weeks. And there's a few factors that are kind of obvious ones that sort of stand out.

On fiscal policy, you know, working its way through first house and now the Senate is just the one big beautiful bill. It is now, as of Monday morning, set to go towards something called a voterama where they are going to go through all the different elements of the bill. It's expected at this point in time that the Senate will, you know, I think pass the bill by Tuesday. It's really not a done deal. It's not 100% guaranteed. There could be, you know, some key holdouts, but the momentum is certainly to get this done, you know, relatively soon.

Then it has to go back to the House. There are certain aspects that the Senate has adjusted versus the initial House bill passed a couple weeks ago that could be met by objections in the House. But there'll be pressure on Republicans in the House to get in line. Trump could certainly tweet about them in the way they did about Tom Tillis over the course of the weekend, a senator who voted against the bill just in the past couple days. But the

But the progress looks like if it's not done by the end of this week, where President Trump could sign it by July 4th, certainly then possible in the next couple of weeks. This matters for the markets because there is some stimulus that is sort of front-loaded. Some more stimulus for 2026, where spending cuts start to kick in in 2027. So it does have some sort of growth impulse for next year. And that thing has been directionally kind of a positive for the markets. Probably even more significant is tariffs and the outlook for trade deals.

July 9th is the...would mark the 90 days of when the Liberation Day tariffs, the reciprocal tariffs, there was a reprieve for 90 days. That's expired by July 9th.

So that could be a risk event where those tariffs go higher, but all the guidance from the administration would suggest that there'll either be deals or frameworks of deals with major trading partners that would prevent a tariff, broadly speaking, to go higher. Just overnight, Canada agreed to drop its digital service tax, which President Trump and American officials were objecting to, and that was the reason why he was calling up trade negotiations.

Now they're back on and reports this morning suggest a deal could be done by July 21st. So progress on trade deals or frameworks that would prevent tariffs from going higher. In addition, kind of relating this whole kind of tariff kind of story to some extent is in the one big beautiful bill, there was something called Section 899. It's effectively a tax on foreign investors into various U.S. assets. It could be treasuries. It could be equities.

that was viewed by foreign investors as a deterrent to invest in the US. Last week, Treasury Secretary Scott Besant announced that will be scrapped and won't be part of the bill. Again, that removes the potential headwind for the markets. I think the tide in this has been a lot of concern about global investors in particular shying away from US assets. But

Looking at fund flows and sort of the different investor positions suggests that sort of investors in the U.S. but globally are buying American assets again. So that's another kind of factor. And the third big thing that I'll focus on, maybe this is the most important recently, is on the Fed and the idea that perhaps the Fed is going to get a little more dovish.

In the past two weeks, we've had Fed officials, Chris Waller, Michelle Bowman, both talking about the possibility of a July rate cut, you know, if inflation did, if it used to move in the right direction. Fed Chair Jay Powell, in his congressional testimony last week, wasn't as dovish. He also wasn't particularly hawkish. So, again, the buy seems to be towards a little more of a dovish Fed. Mark,

Market pricing reflects this. Well, the July cut is only at about a 20% probability in market pricing. Now, 1.1% are priced by September and up to 2.6% by December. A few weeks ago, that was around less than two bets for December and only about a 65% chance in September. So, certainly more kind of dovish pricing in the markets. And we also have President Trump criticizing Powell. There's been reports of him announcing, Trump announcing, follows replacement by the summer. All

All of this is kind of adding fuel to the fire that perhaps the Fed is going to turn a little more dovish, which would be the biggest factor in sort of giving the markets a bit of a tailwind. So all these things, particularly on the policy front, have all been relatively supportive for the markets to continue to kind of grind higher. And investor position, in this case, is not stretched.

So you're getting a bit of a FOMO where bid-by-bid investors, that's like your crops, have to incrementally add exposure and chase on this performance higher. And I think that's been added to the recent developments in markets as well. Quite a range of factors influencing market activity to single one out. In particular, you did mention Fed policy, Jason, as a main driver. What are your expectations for the Fed for the balance of 2025 and then into early 2026?

Well, we can have Trump complain about the Fed cut cutting rates and we can have some senior officials talking about maybe a July cut is on the table. But I think that what's important to recognize for the markets and for the Fed is that overall financial conditions have been easing in the U.S.,

This stems from higher equity evaluations, bond yields going lower, the dollar going lower. So various measures of financial conditions would suggest that they are now at the least as they've been all year. That is, has a positive impulse on growth. So policy effectively has been easing, which

which means there's no real need for the Fed to rush into rate cuts when there's still uncertainty about the impact of tariffs on inflation. We only have one month of data, and this is June data that we start getting tomorrow, that could impact the July rate decision. So it doesn't seem like there would be enough time for a rate cut in July, but there would be perhaps enough to get a cut in September, at which point then the Fed would actually have

June, July, and August data. So our base case is that the Fed will cut in September. We're looking at 50 to 75 basis points of cuts this year. It just depends on the weakness of the data. But overall, 100 basis points of cuts done by the first quarter of next year.

In terms of time and guidance, the Fed won't say a whole lot between now and the Fed meeting. And even then, if they don't cut, Powell might be a little big in terms of the guidance. But later in August, he will be speaking at the Jackson Hole Fed conference. We'll have July data at that point in time.

And typically, that is a meeting where the Fed and Powell specifically could be laying out a bit of a path for what will Fed policy be going forward. So, the market's already got a price in the September cut, but Powell could give guidance not only for September, but what they think about kind of going forward, because at that time, they'll have...

not only a little more incremental economic data, but also kind of more clarity on what the tariffs are and what are some of the price impacts kind of coming through in the data. So, so far, I think our view has not changed in terms of the amount of Fed cuts and sort of the timing.

And the things are sort of played out for the fifth of September, but it's still very much data and policy dependent. Jason, with these considerations in mind, what is the CIO outlook as of today, as well as the factors to focus on? Well, in our house, you update last week in the letter from CIO, we did cover kind of five factors that investors will need to focus on. One is the policy front from the

you know the one big beautiful bill which looks like it's going to move forward. And now there is tariffs and again I think we're, certainly still some risks that things could elevate it but given where things are trending it looks like the administration is kind of comfortable rather for deals rather than move higher with additional tariffs. Another thing that I think is probably the most relevant for the markets ultimately then is what is the economic day to do? It's probably going to be the primary driver.

The expectations have been that higher tariffs would cause growth and slow inflation to go higher.

We haven't really seen that in inflation yet. I mean, very small pockets of the inflation data suggest the impact of tariffs, but not in the aggregate. There is data for the economy, the labor market specifically, that would suggest the labor market is slowing. If we look at rising and continuous claims, gradual descent of job growth, which makes the July or the June job print that we get on Thursday, July 3rd, important data points.

Bloomberg consensus is at $113,000. In that rough range, give or take $25,000, I think the markets will welcome it. But if you get into things below $50,000, that will kind of split the markets going into the long weekend, that perhaps the economy is slowing much more quickly. It would also likely pull forward the market pricing for a Fed cut to a greater than 20% chance of a Fed cut.

uh... in july and that that really is good with the drug in fact we think what we will be used with what the economic data do uh... related that if the earnings outlook and her integration which actually going up a little bit for your equities uh... starting in july we get the second quarter in season again that could be key driver

I think a decent amount of optimism will play out and it's going to be somewhat resilient towards the higher tariffs. So there is certainly kind of scope from there. So in the near term, I think perhaps the risk is more that the markets continue to melt up.

Historically, the first two weeks of July are the best two-week kind of stretch for the S&P 500 during the calendar year. So things can kind of move higher, but a lot of good news is already kind of priced in the markets. So I think that's something to kind of be cautious of, that slowdown of the economy, markets are pricing things still for a relatively bad outcome. If the economy looks like it's slowing more and more, stay inflationary, then you're

know, then the market's going to price and then there's scope for some downside in the near term. Ultimately, on a 12-month basis, we still feel relatively constructive. Instead of reception, we'll be avoided. And then by the time we get it next year in

inflation should be rolling over. Growth should actually be kind of picking up after the headwinds from tariffs are impacted this year. So medium-term constructive, very new-term markets kind of can melt up, but don't be complacent that during the summer there couldn't be more volatility and sort of unexpected factors that cause the markets to pull back.

Jason, a lot remains to be seen near term, as you pointed out, a lot of key data, earnings results. So you think about current valuations as well, as we're now in the second half of 2025. How should investors be thinking in terms of portfolio positioning? Building off of that broad outlook I just laid out for the U.S. economy and the financial markets,

I think our overall hosting messaging and subjets is largely the same. The key messages and focus didn't really change that much with some adjustments.

We continue to recommend investors with basic equities make sure they're fully invested. If you're sitting on too much cash right now, I think the risk is the market's going to keep going higher. Any sort of pullbacks of more than a few percentage points are likely to be bought by the market. And certainly if it's a 10% pullback, I think that's quite an attractive entry point. It just might take some significant negative data for that to materialize.

As part of the house view update, we did update our price targets for the S&P 500, bumping up December to 6,200 from 6,000. And in June, so 2026, so 12 months from now, up to 6,500 from 6,400. Given current levels, then you're looking at a total return of mid to upper single digit type of total returns over the next 12 months.

I think it needs to be put in context that valuations are rich, as you mentioned, Dan. The forward multiple for the S&P 500 is at 22. This is around the top of the range where the valuation has been for the past three or four years. It's certainly fluctuated, but that was kind of at the peak level. It would suggest that ultimately it's got to be at a range that drives the markets higher over the next 12 months. On that regard, we do see growth of around 7% this year, 7% next year. That's consistent with the

it helps obviously to the S&P at these levels. In terms of the sectors, another area that we did upgrade this time was financials to make it attractive. We think financials and banks in particular within it are poised to benefit from the ongoing deregulation efforts, whether it is general actions that are capital requirements,

allowing banks to repurchase more of their shares. We think the banks are kind of poised to benefit from that and the pace of deregulation seems to actually be kind of accelerating. So there's a decent amount of upside there, even though the banks have done well. Their P multiple is only around the 10 year average. It's not sort of an extreme at this point in time. Another sector that we continue to like is AI. AI is one of the key beneficiaries of these secular themes.

or tech as a key beneficiary of this AI theme and power theme that we continue to see performing well and certainly have laid to those that have done very well recently. Very fixed income rates have come down, as I mentioned earlier, the 10 years at four and a quarter. Because there's ultimately a change in at least in the near term because of the growth data holds up, I think you're going to see the 10 year back up to four and a half percent.

Ultimately, if we do get a growth scare before things start to recover next year, the 10-year could fall to around 4%. But I don't need to take a lot of duration risk of these levels to get decent income and stay up in quality. And finally, we can see like gold, it has pulled back a little bit as a result of the risk-line environment of late.

but it's served very well as a geopolitical hedge and proposes diversifying. We think it will continue to perform that function as inflation, especially if inflation data kind of moves higher from tariffs as we expect. And while there's a bit of a calm at the moment in geopolitical tensions,

you know, they can always escalate at any point in time. So those are a few of the key ideas as we move into the second half of the year, Dan. Well, Jason, thank you very much for spending some time with our listeners, our clients on this Monday morning, sharing with our listeners your current assessment of the market, the macro environment, as well as a near to medium term outlook and highlighting some positioning considerations from the latest UBS House View. So

Jason, wish you a nice holiday shorted week. I know markets will be closed on Friday for the July 4th holiday, and we will pick back up our studio conversations here in New York in a couple of weeks' time. Thank you again, Jason, for joining us today. You're welcome. Have a great weekend. Happy Fourth of July.

Thank you, Jason. Again, today we have been joined by Jason Draho, the head of asset allocation for the Americas with the UBS Chief Investment Office. And I will point out that the latest UBS Houseview publication suite is now available for you, our listeners, especially our clients of UBS. Be sure to reference the full offering up on UBS.com forward slash support.

And for clients of UBS, you may reach out to your UBS financial advisor if you would like to receive a copy of the latest UBS House View directly. From UBS Studios, I'm Dan Cassidy. Thank you for joining us.

Thank you for tuning in. Be sure to visit UBS.com slash studios to view the entire UBS Studios suite of podcast channels, along with our video offerings, such as UBS Trending. You can also follow us on Instagram for content highlights at UBS Trending. UBS Studios is part of the UBS Chief Investment Office within UBS Global Wealth Management. Visit UBS.com slash CIO to view the latest research.

UBS Chief Investment Office's investment views are prepared and published by the Global Wealth Management Business of UBS AG or its affiliate, UBS. This material has no regard to the specific investment objectives, financial situation, or particular needs of any specific recipient and is published for informational purposes only.

As a firm providing wealth management services to clients globally, UBS AG and its subsidiaries offer both investment advisory services and brokerage services. Investment advisory services and brokerage services are separate and distinct, differ in material ways, and are governed by different laws and separate arrangements.

In the USA, UBS Financial Services Inc. is a subsidiary of UBS AG and a member of FINRA SIPC. For information, please visit our website at ubs.com forward slash working with us. For a full legal disclaimer applicable to the independent investment views produced by UBS, please visit our website at ubs.com forward slash CIO dash disclaimer.