● Real GDP growth surprised to the upside in 2024 at 2.8%, which led economists to initially revise up 2025 GDP growth
expectations. However, Trump’s tariffs have thrown cold water on these estimates and now economists expect the tariffs to
negatively impact both US and global economic growth and the risk of a US recession has increased.

● The unemployment rate rose to 4.2% in March despite the nonfarm jobs surprised to the upside, increasing by 228K in March
versus 130K expected.

● CPI Inflation remained elevated in 1Q25 and rose 3.0% YoY in January and 2.8% YoY in February for a slight positive
surprise. Furthermore, the core CPI (ex food and energy) has stayed high too with February at 3.1% and January 3.3%. This
led the market to expect fewer rate cuts from the FED in 2025, until the April 2nd tariff announcement. As the tariffs will lead to
higher prices and potentially lower employment, the FED’s dual mandate of stable prices and employment will be in conflict.
However, the market expects four cuts now for 2025 with the first cut coming in May.

● The S&P 500 had two consecutive strong years in 2023 and 2024, but pulled back by 4.59% in 1Q25 on economic growth
concerns and elevated valuations leading to sector rotation. Energy (10.19%) and Health Care (6.54%) led the sectors while
Consumer Discretionary (-13.77%) and Technology (-12.64%) were the laggards.

● The 10-year Treasury bond yield decreased by 36 bps during the quarter to end at 4.21% leading to an increase in bond
prices. The Aggregate US Bond Index increased by 2.1% in 1Q25.

● We favor investment grade intermediate term bonds. While long-maturity bonds offer higher price appreciation in a recession
scenario, the yield difference versus intermediate bonds is too small for the elevated risks of future declines if the US does not
reduce fiscal deficits.

● We recommend bond ladders of IG Intermediate bonds with attractive yields but we expect less price appreciation than in the
past with almost all bond returns coming from the coupons going forward.

● Short term interest rates fell in 2024, matching the cuts made by the FED. The FED is guiding to another 100 bps of cuts by
the end of 2026, indicating further reductions to money market returns. With this in mind, we recommend investors to term out
cash positions not needed for liquidity purposes.

● Studies show that market timing typically produces inferior returns. We encourage diversification and a focus on working
towards financial planning goals.

• Geopolitical unrest and the risks to global growth:
  • Economic warfare through the use of tariffs will negatively hit global growth in 2025 if current tariff tit-for-tats are not
    reversed. The economic fallout will also hurt alliances and cooperation increasing the risks of military conflicts.
  • Global unrest increased in 2024 centered on the Middle East and Russia’s continued war in Ukraine. While Israel
    decimated Iranian air defenses, and reduced Hezbollah in Lebanon and Hamas in Gaza, the threat of war has not
    been eliminated. Islamists forced Assad to flee Syria, and Syria could become another safe haven for terrorists.
  • Cold War 2.0 has started with Russia, China, Iran, and North Korea on one side, but the West and its allies on the
    other side are fragmented. The potential impact on global growth could become much more severe given huge
    trading ties with China that did not exist with the Soviet Union in cold war 1.0.
  • Trump 2.0 is very aggressive towards both allies and opponents, risking alienating most of the world towards the US
    through his tariff hikes and by suggesting Canada should become a US state and Greenland part of the US.
  • The political wind in Europe is changing as historical ruling party coalitions are losing support among populations.
    
    
• Economic growth, unemployment, and FED action:
  •  The US economy surprised to the upside in 2024, led by consumers who received real wage growth. This created
    more jobs, expanding the labor force and spending. While the markets initially rewarded signals of lower regulation,
    taxes and efforts to cut government waste, abuse, and fraud positively, this has been upended by the tariff
    announcements. The fear is the tariffs will trigger economic warfare that will hurt US and global growth and lead to
    higher unemployment.
  • The tariffs have made the job of the FED much more challenging given its dual mandate of stable prices and
    employment. The market currently believes the FED will support the economy through multiple cuts in 2025.
  • The corporate sector remained strong as 4Q24 earnings came in better than expected. The EPS for the S&P 500 is
    currently projected to grow 10.4% in 2025, indicating continued strength, but this could prove to be a mirage as
    consumers and companies dial back spending alike due to heightened uncertainty about future prices.
    
    
• US Government budget deficits:
  • The US continued to run large budget deficits as the fiscal 2024 deficit was ~$1.8 Trillion, or 6.2% of GDP, despite a
    robust increase in tax revenues. While President Trump has identified savings by attacking government waste and
    fraud through DOGE, he also wants to extend the current tax cuts and potentially make them bigger. This will make it
    very challenging to reduce the Federal budget deficit.
    
    
• US Government Debt:
  • US Federal debt-to-GDP has risen to 124% versus 58% in 2000. The Congressional Budget Office (CBO) projects
    US Federal debt to rise by ~$20 trillion in the next decade even in the most positive scenario to ~$56 trillion.
  • Continued large budget deficits will make this worse and eventually force harsher changes when the music stops.
  • Interest payments on the Federal debt held by the public were ~$882 billion for fiscal 2024, and are projected to rise
    to $1 trillion for fiscal 2025. This compares to fiscal 2024 defense spending of ~$841 billion.
  • As the interest on the Federal debt will consume a higher, and higher percentage of the government’s budget, it will
    crowd out other spending, making it harder to make changes the longer we wait.
  • Increasing debt from low debt levels is not a problem. It becomes an issue when debt levels are so high adding more
    debt and refinancing existing debt becomes problematic.
    
    
• Emerging market growth and China’s real estate bubble:
  • Prior to Covid, China was the biggest driver of growth in emerging markets led by infrastructure and housing
    spending. This also drove demand growth in raw materials from other countries such as Brazil and Indonesia.
  • China’s economic growth has slowed partly due to poor economic policies from the top of the communist party, and
    partly from its population having peaked. This created a real estate bubble with an oversupply of apartments leading
    to price declines and an overhang of bad debt from large real estate developers. As a result, new construction has
    nearly stopped. Along with reduced infrastructure spending, growth in China has slowed.
  • Wages in China have become less competitive, and China has become threatening to neighbors. This has led
    companies to move or establish new production away from China to diversify risks. India has been a big beneficiary
    as the country’s economic growth has surpassed China. Mexico has also benefited from near-shoring to the US.
  • Higher demand for key raw materials used in the energy transition will benefit select EM economies such as Brazil,
    Chile, and Indonesia that have these resources, but Brazil is facing its own economic challenges.
    
    
• Economic growth, corporate earnings, and financial markets:
  • Putting it all together, we are worried about the fallout on economic growth from the proposed tariffs and tariff war. If
    used to extract better trade terms, they could benefit the US, but it appears President Trump intends for the tariffs to
    raise revenues to offset the extension of his tax cuts. This will hurt both US and global growth, and Trump’s
    alienation of allies will further hurt growth and by extension earnings.
  • We favor intermediate IG corporate bonds due to a combination of strong balance sheets and attractive yields.
  • We recommend long-term investors to stay invested despite darker clouds such as a potential tariff war leading to
    slower economic growth and lower corporate earnings.
  • We are currently in the middle of a correction. How long and deep is unpredictable, but the equity markets have
    historically moved to new highs following corrections, rewarding patient long-term investors.