11 December 2024

Jonathan Sparks

Chief Investment Officer, HSBC UK

With the page almost turned on 2024, markets move into 2025 on a surprisingly strong footing, largely thanks to a very good year for US equites.

Our latest Think Future report builds on this and points to our most likely scenario of falling rates, rising corporates earnings growth and the expanding use and investment demands of AI. For example, we expect earnings for the top US publicly traded companies to grow 15% next year. There’s even room for some optimism on the UK as improving sentiment can unlock the striking value of cheap market. But next year has every chance of being a pivotal year and one brimming with political uncertainty. 

Every year has its own flavour of macro-economic scenarios. Investors will mull over the pace of interest rate cuts, whether economic growth will settle at a comfortable pace, and who will be the growth engine for Asia - India or China, or both?

There are also the geopolitical risks that overshadowed all of 2024. But next year there’s an added dimension: to what extent incoming president Trump will impose tariffs on imports? And what other policies will come into play on immigration, tax or spending.

Financial markets always trade off a number of scenarios and pricing reflects the collective opinion. Therefore, the more prevalent risks are typically, at some level, reflected in the price.

Bond yields, for example, are priced in the shorter term where the market thinks interest rates are heading and, in the longer term, where will policy rates average over time. When you buy a shorted dated government bond, such as a gilts you’re generally more worried about the former, and for a longer dated bond the later.

In this case, we don’t think the market isn’t accurately reflecting the balance of risks: we think the market is underestimating the pace and end point for rates. That’s good news for gilt investors if we’re right. 

Political risks are harder to gauge, as they’re harder to read and the implications more uncertain.

Are Trump’s plans for tariffs on imports factored in the price? A quick way assess this is to ask the counterfactual: how would markets react should Trump surprise us all by saying he wouldn’t impose tariffs?

Our sense is that equity prices of the more vulnerable exporters across Europe, Mexico or China would jump higher. Less so for the UK, as our more balanced trade with the US leaves us less exposed to criticism – another plus for the UK market. This isn’t just based on gut feeling, we can see it in the movement of asset prices too. Then yes, they are ‘priced in’, but arguably they’re not reflecting the full extent of Trump’s rhetoric in the election campaign.

The same goes for tax cuts and de-regulation hopes in the US. These have clearly affected the price of US equities, but we expect further gains should these commitments become concrete policy. This means that there’s room for more unexpected turns that we should position for. We do this by favouring the USD and leaning further towards US assets.

Then, there are the risks that are more unexpected, but wouldn’t be completely out of the blue.

An aggressive clamp-down on immigration in the US is unlikely to reach the point that there’s a significant reduction in the workforce, according to the market. A major geo-political escalation, or de-escalation isn’t on the cards either. The completely left-field risks that are often the most devastating are so because they are completely unpriced.

Bracing for these unexpected outcomes is the very essence of diversification. In isolation, these risks would seem far too unlikely and not worth losing sleep over, but the accumulation of all these unlikely events mean that something unexpected happening is inevitable.

After a few twist and turns the geopolitical outlook fall into this category in 2025. Even the more telegraphed potential US policies could run aground as they grind through the political system. 

The optimistic base case means that it’s best to stay invested. Yet, we’re also expecting the unexpected, as 2025 is vulnerable to the ebb and flow of geopolitics, along with usual uncertainties over macroeconomics.

A multi-asset portfolio is designed to balance these risks, while maximising returns. With the broad, well-tested approach, it buffers investors against a multitude of scenarios that can play out – ranging from the quite-likely to the completely unexpected. We also make tactical adjustments to not only manage these risks in the shorter term but also to capitalise when the market doesn’t get it quite right.