Portfolio Manager Insights
Second Quarter

Tell us what you think about this article

CURRENT EVENTS

Gina: To start, I’d love to hear your perspective on what’s going on in the world of investing right now. As we all see and hear, every day seems to bring more news headlines, particularly from the government. Whether it’s continuing developments around tariffs and trade deals, proposed changes in the tax code, or discussions around deregulation, there’s a lot to keep up with. What are your overall thoughts?

Cathy: Yes, there certainly is a lot going on. In broad terms, I’d say that investors and business leaders continue to focus on the news coming out of Washington D.C. on the policy front. It seems like we are seeing daily announcements including the things you mentioned, and more. Whether you think these things are good or bad, the announcements are mostly just talk right now. It remains to be seen how the intentions of this administration will be implemented as actual policies. This gap in timing between announcement and implementation, as well as the fact that we have seen some of the announcements walked back, is why the current environment feels so uncertain. It definitely presents a new set of challenges to managing our clients’ portfolios.

Gina: I’m glad to hear you say that because many of my clients have expressed how confusing these times are.

Cathy: I agree, the current environment definitely feels confusing. I guess we shouldn’t be surprised by that. The fact is that very few people have lived through a time like this. For example, tariffs. The average tariff rate on imports into the U.S. hasn’t been this high since before World War II.

Historical and proposed effective U.S. tariff rate

1900–2026 Estimated

I don’t know about you, but I don’t know anyone who was investing in 1938 and even if we could talk with such investors, the economic backdrop is very different today after decades of globalization, the growing dollar value of financial assets relative to GDP, and the evolving demographics here and abroad! So there’s really no playbook or map we can pull out that will tell us exactly how to navigate this terrain. That said, we remain highly confident in our investment management capabilities.

Gina: What’s your takeaway from all of this?

Cathy: While markets have retraced most of the declines they experienced, we don’t think we’re fully out of the woods yet in terms of volatility. We have to wait and see how things unfold with respect to tariff policy, tax code changes, and deregulation. We are still learning about the goals of the current administration. For example, are tariffs meant to try to plug the budget deficit gap? Are they meant to negotiate other issues like military support? Are they meant to promote reshoring of manufacturing? Besides steel, and a few others, what industry sectors will benefit or maybe even be disadvantaged?

Until there is more clarity on these issues and more, we still expect continued volatility in markets and apprehension on the part of business spending. But it’s only a matter of time before government actions will impact things like the pace of economic activity, the cost of goods and services, the direction of interest rates, and the profitability of companies, to name a few. My team is meeting regularly to decipher events as they occur and we are watching closely for more signals. If any strong signals emerge, we will consider whether any changes to client portfolios are needed.

ECONOMIC TRENDS

Gina: What are your thoughts on the U.S. economy, and even the international economic landscape?

Cathy: Our view is that the U.S. economy continues to be in the late phase of the economic expansion that began in the spring of 2020. We are closely monitoring the economic indicators and trends, and while we do not anticipate a recession in the next quarter or two, we remain vigilant. What is typical of late cycle phases is mixed economic signals. Essentially, there are conflicting economic data points, with some metrics continuing to show strength while others indicate emerging signs of stress. Of course, overshadowing all of this is the policy backdrop which we discussed, but in times of heightened uncertainty, we try to keep our eye on the economic signals as a guidepost.

Gina: Can you give me some examples of the economic signals you're referring to?

Cathy: I'd say on the positive side we continue to see healthy consumer spending, supported by a strong labor market. The unemployment rate in the United States is around 4.2%, which is meaningfully below its long-term average of about 5.6%. On the less favorable side is inflation. Although we've seen a significant reduction over the past couple of years from the highs of 2022 when the Consumer Price Index (CPI) topped 9%, inflation has remained elevated. Our internal analysis indicates a potential trend higher over the next six months or so, particularly in light of the tariffs. Not only is that important to consumers who may not be able to afford certain things if prices rise, but it impacts interest rates.

Gina: The tariff talk has also drawn our attention overseas. Clearly tariffs may impact the economies of foreign countries in which we invest. What stands out about the international economic landscape?

Cathy: Well, before we even get to the tariffs, it is helpful to look at the global backdrop over the last few years or even decade. Since the Global Financial Crisis in 2008, the U.S. economy has grown much faster than the rest of the world for a variety of reasons. That said, we are starting to see governments in China and Europe pursuing fiscal stimulus to overcome the slow growth. For example, Germany appears to be unwinding years of fiscal austerity and is now showing a willingness to fund elevated defense expenditures.

Then there’s China. After years of decelerating growth and the debt overhang from prior years’ property bubble, China has been taking steps to stimulate its economy. For example, the government is embracing policies that are more business friendly as well as focused on building capabilities in technology and science. The country continues to rely on exports to drive growth, but with a view towards engaging the rest of the world apart from the U.S., particularly in the evolving tariff situation. The actions of countries like Germany and China could potentially influence companies domiciled there and in surrounding regions.

Gina: What I'm hearing is that the U.S. is still in relatively good shape but some cracks may be forming. Nothing seems imminent, however. Overseas, there are also some mixed signals but there have been some efforts to improve economic competitiveness. So that actually leads me to my next question on the markets.

MARKETS

Gina: Let's start with everyone's favorite, U.S. stocks. What are your thoughts there?

Cathy: It's been a very volatile year so far. We saw two back-to-back years of +20% returns in the S&P 500^® Index in 2023 and 2024, so it’s not too surprising to see the leadership shift in 2025 towards non-U.S. equities. The tariff announcements were also very challenging for U.S. equities in early April, but they have subsequently recovered a lot and may have the potential to move higher. However, with that recovery, valuations have returned to above-average levels. Corporate earnings are expected to grow but estimates are being adjusted lower. So when we combine high valuations with the uncertainty regarding the earnings outlook, we get a little less enthusiastic about U.S. stocks.

Gina: What about international stocks?

Cathy: We're a little more constructive on international stocks these days and we’ve reflected that in our investment positioning. International stocks have shown strong performance, beating U.S. stocks year to date, and their valuations are currently considered attractive. Another thing in their favor is the softening of the U.S. dollar. The dollar has declined recently, but from a high level relative to history. Although the U.S. dollar valuation is still historically elevated, a decline in the U.S. dollar benefits the returns of overseas investments by U.S. investors. That's one of our main convictions this year - a weakening U.S. dollar - which we've already seen.

Gina: How about bonds? I’m still getting a lot of clients who wonder why we own them given how performance has been so challenging over the past few years.

Cathy: Well, I can completely understand that Gina. 2022 was a very tough year for bond prices given that we saw what's widely considered to be a generational reset of interest rates from near zero to roughly 5%. But since then, bonds have been clawing their way back. And now, with investment grade bond yields hovering around 4.5% or so, we believe there is potential for positive outcomes going forward. Remember, we use stocks as the growth engine for client portfolios. Bonds are meant to provide some income and stability. With a 4.5% yield, bonds have the potential to provide income, which could contribute to future financial stability. Bonds have historically shown resilience during some of the recent stock market volatility.

Cumulative total returns on investment grade bonds and cash when bond yields have been between 4 and 6%

1995–2024

STRATEGIC ADVISERS

Gina: Those are some really great insights Cathy, thank you. Let's take everything we've talked about so far and incorporate it all into how these topics have factored into your investment positioning. What can you tell us about our clients’ current managed account portfolios and what could be in store for them going forward?

Cathy: As of our most recent trades, we have a relatively neutral positioning with some underweights in certain areas being effectively evened out by overweights in other areas. To give you an example, we have a slight underweight to U.S. stocks offset by a slight overweight to international stocks. Using a 60/40 portfolio as the benchmark, we're right around 60% allocated to stocks. Similarly, we're pretty neutral in our bond positioning, but the mix of these investments really tells the story.

As I mentioned earlier, inflation has remained high and while we don't know for sure yet, tariffs may put upward pressure on inflation. As a result, we are underweight investment grade bonds -- things like U.S. Treasuries, corporate bonds and mortgages, but added in TIPS, which are Treasury Inflation Protected Securities. TIPS are U.S. Treasury bonds that increase in value if inflation surprises higher. Again, this is a position intended to help protect against an adverse scenario.

Looking beyond the traditional stock-bond mix, we own a fair amount of what we consider to be opportunistic allocations. Those are asset classes that don't fall neatly into a stock or bond category. Commodities are a good example. Commodities, like TIPS, can be considered as an option to potentially mitigate the impact of inflation on a portfolio.

We also use opportunistic allocations to acquire some diversified sources of potential growth. For example, when markets sold off hard in April, we saw some mispricings in the high yield bond market. Our portfolio managers identified opportunities in high yield bonds and bank loans, which we subsequently invested in.

Gina: Interesting, are there many more to talk about?

Cathy: Other positions in that opportunistic basket include real estate investment trusts and liquid alternatives. In general, all of these positions are meant to help add diversification to a traditional portfolio of stocks and bonds, and we also think these investments could provide some positive contributions as certain scenarios unfold.

Gina: What can our clients expect going forward?

Cathy: It is hard to say, but maybe it is, in fact, the uncertainty itself that we should expect going forward. In reality, moments of clarity can be challenging to find in this world, and market fluctuations can sometimes create a sense of uncertainty. In periods of uncertainty like this, we revert back to our bedrock foundational views and investment approach. We work hard to separate the signal from the noise.

We heavily lean on our lines of communication into our underlying stock and bond managers who have boots on the ground around the world to give us timely perspectives on what's happening in their area of expertise. And, we have a great team of eager and knowledgeable investors in our office who gather on a moment’s notice to share insights and support our team's assessment of any potential changes that we need to make.

As more and more real news emanates out of Washington D.C. and we start to see tangible impacts on the economy, we will follow our process to adjust positions accordingly.

Gina: Thank you for these insights.

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