From January twentieth to January twenty-fourth, two thousand twenty-five

I. Foundation

resistance to change and hence greater dependability for the results shown in the past.

How to assess the extent to which the market has priced in Trump’s tariffs

1）Wall Street is broadly watching S5MATR

2）Another way to observe the build-up of “tariff-risk” positioning is to compare the dollar index with the 2-year Treasury yield:

2025.01.22

Interest-rate levels, actual earnings, and the S&P valuation range

Goldman Sachs’s macro model calculations show that All else equal, for every 50 basis-point change in real interest rates, the fair price-to-earnings ratio for the S&P 500 changes by about 3%.

Chart: Real Rates, Implied Valuations, and S&P Target Price

Higher-than-expected interest rates affect not only valuation multiples but also earnings to some extent. In practice, however, their direct impact on S&P 500 earnings per share is very limited: if S&P 500 financing costs rise by 50 basis points, all else equal, earnings per share would fall by about 2%.However, the financing costs of S&P 500 companies do not move fully in sync with Treasury yields, because most S&P 500 companies’ debt is fixed-rate and long-term.

S&P 500 nonfinancial companies currently have total debt of 6.2 trillion dollars, of which 94% is fixed-rate debt, and 51% of the debt will mature in 2030 years, which is why, since the record low set in 2022, even though the 10-year Treasury yield has risen by more than 200 basis points, the average borrowing cost for S&P 500 companies has risen by less than 100 basis points (from 3.0% to 3.9%).

When interest-rate changes are driven by improved growth expectations, equity markets are usually better able to absorb rising yields. The outperformance of cyclical sectors reflects equity investors’ steadily improving growth expectations, while the flattening performance of Cyclicals vs. Defensive reflects a stable growth outlook.

Chart: Cyclicals vs. Defensive Performance in Europe and the United States

From this, the chart above makes it clear that trading in the United States is already reflecting a stable growth outlook, while in Europe, since 25, markets have been trading on continuously improving growth expectations.

Read this alongside Notes 250121: Wall Street’s Next Bet: Europe’s Revival.

2025.01.23

II. Insights

Our Viewpoints and ideas on market.

Interest-Rate Pricing, Safe Assets, and Behavioral Mechanisms

Changes in bond-market yields and the market’s response are gradually becoming a “coercive mechanism”, and the effects of this behavioral adjustment are not limited to economic policy itself, but are also gradually extending into broader social and political spheres.

European voters are losing confidence in traditional parties and turning to non-mainstream parties, including those on the far right and far left, such as Germany’s AfD and France’s National Rally. Current polling clearly shows that support for these nontraditional parties is rising.The disputes between political parties naturally lead back to the same issue: under fiscal dominance, how much will be spent, and how will it be used?

Behind national debt lies a rotation in safe assets, China's demand for U.S. Treasuries continues to weaken further, as shown in the chart below. The white line represents China's holdings of U.S. Treasuries, the orange line the PBOC's gold holdings, and the blue line the yield on 10-year U.S. Treasuries. The rotation among safe assets is pushing interest rates higher, and rising rates inevitably trigger debate over fiscal sustainability; that debate further deepens the narrative crisis surrounding safe assets, These developments reinforce and intensify one another.

Chart: Chinese Demand Waning

Chart: Even the Fed’s rate-setting remarks are softening GS

U.S. equities continued the trend from the end of 12 last year, with considerable price volatility at the start of the new year. At the very least, the market is currently in a transition period—not just a transition in trading logic, but a broader transition to a new policy framework under a wider market logic.The fundamental change in the trading environment brought about by this transition is a wider distribution of possible outcomes. That means more uncertainty will create more friction, which is reflected in the market as a reduction in portfolio risk allocation.

The next question is: how should trading strategies be adjusted?

The main trend in U.S. equities is probably still upward, but higher volatility may persist for some time, In other words, after two years of high Sharpe ratios and excellent β returns, the market will lean more toward a “Trader’s Market” and less toward a simple “People’s Market`”; clear-cut opportunities will be significantly fewer.

If brute-force trading worked last year, more nuance and flexibility may be needed at the start of this year.

Outside equities, it is important to go with the trend and not oppose the core trends, including a strong dollar and a steep yield curve, because no one knows what will ultimately happen under a new policy framework.

Chart: The Current Rate Rebound Is Truly Rare

2025.01.20

Dollar Upside

As mentioned in Notes 250120, Interest-Rate Pricing, Safe Assets, and Behavioral Mechanisms, our market is in a transition period—not just a transition in trading logic, but a broader transition to a new policy framework under a wider market logic.

In this situation, the dollar’s recent strength may mainly reflect the resilience of the U.S. economy and a shift in policy expectations, rather than a higher tariff premium. This means that the actual implementation of tariffs going forward could push the dollar higher still USD/CNY are likely to weaken to 7.40 within 3 months, then gradually move to 7.50; ultimately, the exchange rate will depend on policy choices.

Dollar strength may ultimately allow U.S. equities to continue rising alongside economic performance, but if either of the following two near-term risks materializes, equities could come under pressure:1) A further rise in Treasury yields, whether due to stronger inflation data or heightened fiscal concerns; 2) weak macroeconomic data that leads the market to question the sustainability of U.S. economic “exceptionalism.”

In the first scenario, the dollar would generally benefit going forward. In the second, the dollar could perform unfavorably against less risk-sensitive currency pairs such as EUR/USD and safe-haven currencies such as JPY and CHF.But in either scenario, SEK will generally come under pressure, while the bullish case for USD/SEK is relatively persistent.

Chart: The next technical level is roughly 11.60

2025.01.21

Wall Street’s Next Bet: Europe’s Revival

Since the financial crisis, Europe and the United States have followed two starkly different paths, and the chart below compares post-crisis per-capita GDP growth in the United States and Europe. It clearly shows a pronounced loss of growth momentum across Europe:

Chart: Per-Capita GDP in the United States and Europe After the Crisis

The crisis in the economic model is underpinned by a crisis in the social and political system, as Notes 250121, Interest-Rate Pricing, Safe Assets, and Behavioral Mechanisms says, traditional mainstream parties in Western Europe are facing the greatest pressure in their history.

By 25, some investors are now putting the Europe revival trade on the table, European equities have performed better than expected throughout January this year, and banks—which had been languishing for a long time—have broken out decisively after 8 months of consolidation.

Chart: European Markets Outperformed Expectations in 25

Chart: Major Sectors Break Out Significantly

Wall Street investors broadly agree that, in the face of immense economic pressure, the renewed growth sentiment that has emerged since Trump took office could be a strong enough catalyst to drive a substantive transformation in Europe. Europe needs to keep pace with growth in this reaccelerating global economic competition; it is a game that politics leaves it no choice but to join.

There is growing evidence that this change is possible:

1) The Bank of England followed the United States’ lead last week, postponing implementation of the Basel regulatory reforms until 2027;

2) Rachel Reeves, Chancellor of the Exchequer in the UK Labour government, has markedly shifted her position in her latest media exchanges, conveying a message to regulators: asking them shift their focus back from risk prevention to putting growth first.

Source: Mondaq

Source: FT

“Media reports say that UK Chancellor Rachel Reeves wants regulators to take on more risk and ease overly cautious rules that hinder economic growth. Apparently, this Thursday she will meet with the heads of the UK’s largest regulators, including the Financial Conduct Authority (FCA) and the UK Securities and Exchange Commission (CMA). She wants these bodies to outline plans to promote growth in their respective sectors by cutting red tape and opening markets to new entrants. Before Christmas, Reeves wrote to the UK’s 16 regulators, asking them to submit plans by this Thursday to make their respective sectors more conducive to growth and investment (we’ve heard this before). Reeves reportedly called the meeting to hear their plans in person and challenge those that are not ambitious enough. The biggest complaint Reeves has heard from business groups is red tape, so she wants to address their concerns. The timing was chosen because Reeves will give a speech in two weeks.”

On the fiscal front, in terms of defense spending, EU spending has risen 50% from its recent low and continues to climb:

Source: Surge in fiscal/defense spending

London-listed diversified industrial company Smiths Group broke out to a new all-time high. The move came after the company announced a new, rare American activist shareholder, who is calling for a more proactive approach to creating shareholder value:

Source: American capital is trying to revitalize European assets

Just a few days ago, Rio Tinto and Glencore continued negotiating what would be the largest mining merger in history.If the two companies merge, they are expected to overtake BHP (BHP), currently the mining industry’s leader. The main driver is the major producers’ desire to expand copper production, and this time BHP/Anglo’s standstill agreement has also expired. Glencore and Rio Tinto both own some of the world’s highest-quality copper mines. Glencore raised this idea in 2014, but it did not succeed at the time. If it happens this time, it would be a major landmark event for the European equity indices as a whole.

Source: Bloomberg report

Some of Europe’s key luxury goods consumption is now seeing a strong comeback led by Richemont (see Notes 250120, Major Turning Point in Consumption),In the current economic and interest rate environment, European indices may continue to outperform.

2025.01.21

Yield curve steepener trades (Steepeners)

As long-term bond yields rise, the yield curve has almost completely exited inversion. The market now expects only one rate cut in 2025, while the Federal Reserve may resume raising rates in 2026. (For related discussion, see Notes 250115, Extreme Market Pricing and Inauguration Day Behavior.)

Even so, if the MAGA agenda succeeds, steepener trades will still be profitable。First, milder inflation data will push short-term rates lower, allowing the Federal Reserve to cut rates several times this year. Trump will undoubtedly push for rapid monetary easing. Although the Fed may be unhappy about it, Trump may cite the example of 2018 to apply pressure; his intervention then prompted Powell to adopt a dovish stance, ultimately creating a Goldilocks economic environment in 2019.

Meanwhile, strong real growth will push long-term yields higher.A rapid increase in productivity could restore an interest rate equilibrium similar to that of 1990 era, when the 10-year Treasury yield averaged 6% and the term premium hovered around 2%.

Finally, steepener trades can serve as a bet on a bear market in the first half of the year.As the chart shows, current returns on the S&P 500 are negatively correlated with changes in the term premium. Good news on economic growth instead fuels concerns about inflation and rate hikes, which weigh on equities.

2025.01.24

Bessent’s weaknesses and possible market direction

One of the main obstacles to the Trump administration implementing its policies (lowering interest rates, weakening the dollar, imposing modest tariffs, lowering oil prices, and cutting government spending) is the US bond market.If Congress cannot significantly cut government spending or scale back the planned tax cuts, US Treasury yields will continue to rise. This increase could stem from higher inflation expectations and/or concerns about the sustainability of public debt.

If the 10-year Treasury yield breaks above 5%, it will pose a threat to equities and the economy. If Congress passes a large-scale fiscal spending cut, economic growth may suffer; in that case, bond yields could fall sharply. But declining corporate profits would lead to a significant drop in share prices.

The Trump administration may fine-tune fiscal policy to balance the needs of the bond market and economic growth, but achieving this delicate balance will not be easy.

Over a short time horizon (3-5 months), the Treasury selloff could continue, pushing yields above 5%, as uncertainty around inflation and the fiscal outlook remains high, which will be reflected in wider term premiums. The US fixed-income market has not yet experienced a “capitulation” selloff, and its volatility index has not yet surged, and this are usually precursors to yields peaking.

Historically, when US corporate bond yields rise, whether because Treasury yields are rising or credit spreads are widening, US equities tend to perform poorly. Currently, the risk-reward profile for US and global equity markets is very poor, Keep positions as risk-averse as possible until signs of a peak emerge.

Rising Treasury yields will push up US corporate bond yields as well as yields on local-currency and dollar-denominated bonds in emerging markets.If the rise in Treasury yields is orderly, it will support the dollar. But if the bond bear market becomes disorderly (as in the UK’s “Truss moment” in 2022), the dollar could fall even as yields rise.

If the dollar continues to strengthen, the Trump administration may try to weaken it artificially. In the short term, however, the dollar may continue to appreciate because the market is overbought.

Over the medium term (6-12 months), the US government is likely to succeed in driving the dollar lower. Once sentiment toward the dollar shifts, overweighting emerging-market fixed-income assets is the best option, including local-currency bonds and sovereign and corporate credit.

Once the dollar begins to depreciate, global equity portfolios should increase their allocation to emerging markets. Although the S&P 500 may fall at that point, emerging-market equities are expected to outperform developed markets.

It is not yet time to overweight emerging markets, but the conditions for doing so may gradually take shape later this year. The implementation of Trump’s policies and the evolution of the dollar will be key variables this year.

2025.01.24

III. Market Pulse

Our latest Comments on the economic and market environment

A Major Turning Point in Consumption

European luxury goods rallied, led by Richemont’s better-than-expected results, benefiting from a stronger US economy and unexpectedly stable sales trends in Asia, essentially because a weak currency has provided a tailwind for the export-oriented parts of the market.

Chart: Richemont trading to new al-time highs

Beyond the earnings leadership, the luxury sector’s strong comeback is also linked to the Trump team discussing tariffs that increase by 2-5% each month as an alternative to a large, one-off tariff hike. The news was the direct catalyst for buying sentiment.

The main debate in the market now is whether many hedge funds should short this luxury rebound, since the sector’s 14-day RSI is currently in overbought territory and prices are also trading above the 200-day moving average. But shorting is very risky if the macro narrative remains unchanged. The broad-based strength in this earnings season shows that the momentum is not coming solely from brand momentum; Richemont beat expectations in every category, region, and channel, indicating that current growth is no longer driven solely by the brand momentum of Cartier and Van Cleef。As the luxury sector bottoms out, the rebound is likely to continue if currency trends remain unchanged.

Broad-based earnings beats indicate that industry demand may indeed be at an inflection point, and momentum-driven sectors are likely to continue performing well in the near term. The counterargument from luxury bears now is that the improved US outlook is already priced in, so this alone is not enough to drive further upward revisions to expectations, But another point worth discussing is that the Chinese market is now also showing early signs of a rebound from the bottom. That is the key factor.

2025.01.20

A Major Turning Point in Consumption (Addendum): Characteristics of the Luxury Goods Industry

LVMH is due to report earnings on 1.28. Following Richemont’s results, market expectations for LVMH’s currency-adjusted growth have risen, but mainly in fashion and leather goods, and watches and jewelry.

To explain in more detail Notes 250120: A Major Turning Point in Consumption In the phrase “European luxury goods have strengthened, led by Richemont’s better-than-expected results, essentially because a weak currency has provided a tailwind for the export-oriented parts of the market.” investors’ main concern about the luxury sector now is margins. The market assumes LVMH will continue spending heavily on its brands amid a difficult industry environment, but the boost to results from exchange rates may offset this impact.

Luxury is a momentum-driven industry; as long as the news flow continues to improve, the sector’s performance will keep getting better.Although visibility for 25 remains low for now and greater confidence in a recovery in China is needed to attract long-term investors, positioning is still light, and LVMH next week may once again report results above expectations.

Chart: Global tourist duty-free spending is picking back up