Episode 33 – Lessons from 2025 in Markets

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Welcome to Market Perspectives, a Mercer Advisors podcast. Today, we’re looking back at the year we’ve just lived through and taking stock of the lessons we’ve learned. I’m Josh Zumbrun, I’m the director of External Communications here at Mercer Advisors, and I’m joined today by Don Calcagni, our Chief Investment Officer. Don, thanks so much for being with us.

Thank you, Josh. It’s great to be here as we enter the back half of December already.

So, Don, let’s start big picture. Give us a broad overview of the year. How have markets done? How has the economy done? With the year almost finished, what does it look like looking back?

Josh, it’s been a year for the record books. It’s really been an interesting year. Obviously, we had a presidential election at the end of last year. Coming into this year, equity markets, the stock market was really at all-time highs. Valuations were high. We had a really strong stock market in 2024.

And really came into the year having a strong stock market. And then naturally, we had the tariffs that were announced in April. We saw that big market swoon. We saw markets actually go deeply negative.

We’re down almost 20% in mid-April in response to the tariffs. But what we’ve seen, Josh, is that markets have rallied back. And at least at the moment, as we enter the back half of December, the S&P is up 16%, 17% year to date. Non-US markets are up in the 30s.

The US economy, perhaps quite surprisingly, is still rocking and rolling. We had a really tough GDP number early in the year coming on the heels of the tariffs. But what we’ve seen since then is that the US economy is continuing to motor along at somewhere around 3%, maybe 3.5% GDP growth.

So by most measures, Josh, it’s been a relatively good year for investors and for the US economy as a whole, as a whole. There are certainly pockets where we’re starting to see some evidence of things starting to look a little shaky. We had a really bad jobs number for October. We recovered some of the job losses from October in November.

We’re seeing unemployment take up a little bit. So there’s a few cracks in the foundation. But by large, the US economy, US financial markets, global financial markets, have actually clocked a pretty good year as we enter the end of December.

I think we want to dig into almost every single one of those points a little bit. But first, let me ask one more big picture question, which is, given everything that happened, what surprised you the most this year in markets and with the economy?

It’s no surprise that President Trump announced tariffs in April. He campaigned on it. He’s repeatedly said he’s a pro-tariff president. But I think what really surprised me, and I think surprised markets, was the depth and breadth of those tariffs, the sheer size of the tariffs. If we go back to the tariffs that were announced in early April, these were tariff rates of about 30%, the statutory rates that were in the executive orders.

Additionally, the tariffs were applied to virtually all countries of the world over. So in terms of the scope of the countries that were impacted by tariffs, I think that certainly surprised me–

certainly surprised markets. We saw markets go from giving us positive returns to going deeply negative in mid-April and certainly caught the whole world off guard, caught global financial markets off guard. And so that certainly was a huge shocker.

And then I think an even bigger shock is that markets recovered and that the US economy continued to motor along. I mean, it’s what I love about what we do, Josh. We are consistently humbled by what’s happening in markets and what’s happening in the economy. We always think we can predict. We think that all of this is a science. And sometimes, it’s just so interesting that despite our best science, despite our best predictions of what we think is going to happen, something entirely different happens.

And so I think 2025 was one of those years. It was a humbling year for economists. It was a humbling year for financial market observers who thought for sure that tariffs would have led to a pretty poor year in terms of market returns and economic growth.

Obviously, in April, when the tariffs were first announced, that was the month we saw that really dramatic decline in the US in particular. Don, one of the really interesting themes we’ve talked about on a number of times on the podcast this year is how well international stocks did during that April period, but really how well they’ve done all year, which you wouldn’t necessarily expect amid a trade war. Talk about what’s happened with international stocks this year.

It’s interesting, Josh. If you look at the most heavily tariffed countries by the administration, let’s just take Brazil. Brazil has some of the steepest tariffs levied against it by the Trump administration. And yet, Brazil actually has had one of the best, if not the very best, stock market returns year to date.

The Brazilian stock market is up almost 50%–

50% on a year-to-date basis.

I think when we unpack it, and we ask ourselves, well, why are non-US markets doing so well? A big part of that story, not entirely, but a big part of that story, is the fact that the US dollar has collapsed in value by a solid 10% thus far this year. And that is largely because many of the policies pushed by the administration are what we call anti-dollar or dollar devaluationist policies. These are weak-dollar policies.

The administration wants to bring down the value of the US dollar against non-US currencies. That’s why they’re pushing for lower interest rates. It’s why they’ve levied tariffs against a majority of the countries with whom we conduct extensive trade. And so a big part of that return that we’re seeing, that 35% return almost for developed non-US market stocks, about 10% of that is what we call the currency effect–that negative 10% decline in the value of the US dollar.

But it’s not the whole story, Josh. There’s more going on here. What we’ve also observed in non-US markets is what we call multiple expansion. It’s a fancy way of saying that many investors have begun reallocating their wealth out of the United States, and they’re diversifying into non-US stocks. And that’s pushing up the valuation of those companies that trade in those markets.

Many very sophisticated investors see the writing on the wall. They can look at this and say, look, longer term–while the US market may have done well this year–longer term, these are some pretty powerful headwinds for the US economy and for US markets. And so what they’re doing is they’re starting to move capital to other markets. And that, in turn, has pushed up the value of stocks in those markets.

And it’s not just one or two countries, Josh. I mean, it’s the world over. It’s Europe. It’s Italy.

It’s France. It’s Spain. It’s Latin America. It’s China. All of these countries have had phenomenal returns thus far this year.

And a lot of it’s because of the currency, and a lot of it’s because of that diversification play that’s playing out in the broader global financial market.

The broad diversification that you talk about diversifying internationally is something you’ve been recommending for a long time, something you’ve been recommending well before this particular year.

Yeah, I mean, absolutely, Josh. I mean, like I said a few moments ago, markets can humble the most confident prognosticator. And so when you look at what’s happening in markets, when you look at US valuations, when you look at where interest rates are at, and when you look at all of these policy changes that have been announced by the US administration, these are seismic shifts in global economic policy.

And these things are likely, maybe not right away, but they are likely to have an impact on markets and on client portfolios. So what do you do with all that information? You diversify. You don’t try to predict.

You don’t try to market time. You diversify. You build what we call at Mercer a fortress balance sheet. You diversify not just across US stocks, but non-US stocks and emerging market stocks and bonds and real estate, but also private investments–

private equity, private credit, perhaps private real estate, and things like that. So this is all about really incorporating humility into how we manage wealth for our clients.

So I’ve been a big proponent of diversification all my career. And this is one of those years where it has certainly paid off in an exceptionally big way. And I’m glad our clients were well diversified coming into the year.

You mentioned private markets there. And that’s interesting because that’s somewhere that we don’t see. We see what the public markets are doing every single day. Private markets, we don’t get as frequent of a window into it. So what are we seeing there as it relates to private equity, private credit, real estate? What have been the trends this year?

I mean, coming into the year–and really until very recently–these markets have been a little bit frozen. And that’s because if we rewind the tape a little bit, Josh, and we go back to COVID, and we saw the Federal Reserve take interest rates to basically 0, we saw the valuations of a lot of private companies go through the roof. And what happened in 2020 and 2021 is many private equity funds deployed capital at a time when company valuations were very high and interest rates were very low. It’s no secret that private equity makes extensive use of financing of debt in order to acquire these companies.

Now, you fast forward to 2022, when the Federal Reserve dramatically increased interest rates to combat at the time, which was very significant inflation that was building in the US economy. We saw interest rates go very high. And so what really happened is many private equity funds, many private companies chose not to transact, meaning not to sell, not to do a recapitalization, or anything along those lines.

And so we saw many funds being hesitant to deploying capital to investing in new companies, to selling companies to other private equity funds or to other strategic acquirers or things like that. That has begun to change here in the back half of 2025. We’re beginning to see more M&A deal activity in the private markets. We’re beginning to see more transactions now that interest rates are slowly coming down.

And in fact, as we enter 2026, 2026 is looking to be a fairly attractive year where we should see a fair amount of M&A activity in private markets. And the fact that those rates are coming down bodes well not just for private equity, but also for private real estate, especially commercial private real estate. That is a market that has been largely frozen for quite a long time, given the run-up in interest rates that we saw in 2022, in the first half of 2023.

So I think looking forward, commercial real estate looks more attractive. Venture, private equity–those markets are starting to thaw, and those are looking more attractive. Private credit, which is really the bond side of the private markets–to just draw a parallel to public markets for our listeners–private credit has seen exponential growth in the wake of the global financial crisis coming out of what happened back in 2008 and 2009. And so we have seen private credit really become a mainstay in client portfolios.

We’ve seen traditional commercial banks retreat from really doing a lot of lending to private companies. And so private credit has really filled that void. We are seeing those interest rates come down a little bit. Much of that debt is floating-rate debt. So as interest rates decline, those interest rates that we’re earning on those portfolios are also beginning to come down.

But you still see pretty attractive high single-digit yields on private credit portfolios–

8%, 9%, 10%. You can certainly get higher if you’re using leverage. It depends on the manager, depends on the fund. But I think by and large, when we look at the private markets, I think we see some pretty positive trends at the moment as we enter into 2026.

Now, one of the biggest market stories of the year has really been what’s happened with AI over the course of 2025, and that question of whether we’re in an AI bubble. How should investors be thinking about AI, the valuation of some of these leading companies as 2025 comes to a close here?

Well, I think AI rhymes with–

the best way I know how to think of it, Josh, is to go back to the internet bubble of the late ’90s. Anytime you have new technology that’s exciting, that businesses are incorporating technology that is enhancing, that’s increasing labor productivity, these things are very exciting. But we’ve seen that excitement really manifest itself in company valuations.

I was just looking at the valuation of NVIDIA and Broadcom coming into this call. And those are companies that trade at valuations of somewhere between 35 to maybe 43 times next year’s earnings. These are companies that are trading at a valuation that’s about twice that of the broader S&P 500 index.

And so while there’s a lot of excitement here around AI–

and I would argue there should be. I think AI is pretty exciting. It’s pretty interesting technology–

but a lot of that excitement is already priced in. And so when folks come to me and say, Don, I want to invest in the AI trend, how do I do that? I would say you’re too late.

Now’s not really the best time to jump into these companies. What I would say is you should just take a broader, diversified approach. If you own something, just like an S&P 500 index fund, you already have pretty significant exposure to technology companies and specifically to AI companies like Broadcom and Google or Alphabet and these types of companies. So that’s why the first thing I would say is that it rhymes a lot with what happened during the internet bubble of the late ’90s.

And I’m not saying we’re in a bubble. I think what’s really different this time, Josh, from the internet companies of the late ’90s and early 2000s, as these companies are very profitable. If you look at NVIDIA’s financial statements, they had $113 billion in EBITDA. That’s Earnings Before Interest, Taxes, Depreciation, and Amortization. So these are profitable companies, unlike the internet companies from the late ’90s.

So these are good companies. They’re profitable companies. But I think you should be careful not to invest too much into these companies at these valuations. And I think the wiser, more prudent approach would be to diversify beyond AI companies. I think the next wave of AI innovation is going to come with respect to the application of AI in companies that are engaged in the real economy.

It’s not the companies. It’s not the hyperscalers. It’s not the AI-oriented technology companies. It’s those old-school companies, companies like the Chevrons and the McDonald’s, and companies like that that begin applying AI, which is where I think you’re actually going to see the next wave of returns be generated by artificial intelligence.

That’s interesting because they won’t necessarily be the companies that have AI in the company name. It’ll be the companies actually deploying. Have you been surprised that despite all the headwinds and all the uncertainties facing the US economy, that growth has held up as well as it has?

Yeah, it certainly has been a shocker. When you look at the tariffs, when you just look at everything that’s happening, when you look at inflation–

inflation has also remained pretty elevated and has even gone up a little bit as we enter the end of the year. And so it has been a bit of a shocker.

I think it remains to be seen whether or not the US economy holds up heading into 2026. My fear, my suspicion, and to be very transparent with our listeners, my job as CIO is to be a little bit cynical and always paranoid. So when I look at data, when I look at markets, when I’m looking at the economy, I’m always looking for the things that are going to bite us.

And when I look into 2026, and when I see interest rates coming down, when I see the independence of the Federal Reserve perhaps being challenged by the administration in some ways, when I look at the tariffs, when I look at the reordering of global trade relationships, I can’t help but think that something is going to break or something may perhaps already be broken, and we just aren’t seeing it yet. This reminds me of ’05, ’06, ’07, where there’s been so much change in the economy that it is likely that there could be some dark storm clouds out there on the horizons.

And so I am surprised. I love seeing that the US economy continues to do well. I want it to do well. So I want to be very clear with our listeners.

I’m not hoping. I’m not praying for bad news. I’m just trying to be very fair and very realistic when I look at the data. Trees don’t grow to the moon, and so I’m fully expecting that there’s going to be probably some storm clouds out there on the horizons as we enter into 2026.

I hope I’m wrong, but that’s my expectation.

Now, obviously, this has been a really difficult situation for the Federal Reserve to navigate when they think about setting interest rates for this economy because on the one hand, you have economic growth that’s held up, unemployment that’s relatively low by historical standards. But you have inflation above their target, and you have markets. A lot of people blame the Fed when there’s bubbles. How do you think the Federal Reserve has navigated this period, and what are you watching for in the year ahead when it comes to US interest rate policy?

I think Jerome Powell and the Fed more broadly has done a pretty good job. I mean, for all criticisms against the Fed–

and certainly, I participate in throwing those criticisms at the Fed–

I think they’ve actually done a pretty decent job. And I know that that’s maybe not how politicians on the Hill often think, but I think they’ve done a pretty good job.

And the reason I say that, Josh, is the Fed has a very challenging job. They have two mandates. They actually have two jobs. And that is maximum employment and stable prices. And they’ve defined stable prices as an inflation rate of 2%.

Well, we’re at 3. We’ve been at 3. We have not seen 2 in a very long time. And so we’re still at 3.

Unemployment has crept up, but only a little. It’s about 70 basis points higher today than where it was at the beginning of the year. We’re currently at around 4.6% unemployment.

We were around 3.9% unemployment at the beginning of the year. So we have certainly seen unemployment increase over the course of the year. You could argue in theory that that is what the Fed is concerned about.

In the old days, we used to think of an unemployment rate of 5% as being, quote, “full employment.”

That’s historically.

Very low, very low. And I think the new monkey wrench that’s been thrown into the mix is the administration constantly berating Jerome Powell and pushing for lower interest rates. Like I said a little bit earlier in our conversation, if you look at the economic policy advisors around the president, they are weak-dollar economists. They want to bring down the value of the US dollar.

That’s a pretty tough balancing act, Josh. You’re trying to make sure that inflation doesn’t get out of control like it did back in 2022 and late 2021.

But 3% still it’s 100 basis points higher than the Fed’s target. So the fact that the Fed has cut interest rates, at least for a market participant like myself, I’m left asking myself why.

There is no economic case that I have heard, or that I believe that one can make to justify cutting interest rates. And I can’t help but think that they’ve been cutting interest rates because of pressure from the White House. And that gives me some pause, because it suggests that Fed independence is slowly being compromised. I hope that’s not the case. I do believe that we need a very strong and independent Fed. But at the same time, I can’t help but wonder why they’re cutting interest rates when we still have inflation at around 3%.

You touched on this a little bit, but as you look forward to 2026, what are you on the lookout for? What are the economic trends? We’re going to get answers to a lot of these questions over the course of 2026, right? What trends are you looking forward to learning the answer to in 2026, so to speak?

I mean, what I’m really curious to see is obviously what happens with interest rates. Is the Fed going to continue to cut? Who’s going to be the new chair of the Federal Reserve?

Keeping in mind that the chair is only one vote, right? There are a number of people on the FOMC–

the Federal Open Market Committee–

who have a say in what interest rates are.

So I’m looking to see what the future direction of interest rates is going to look like. I’m actually looking to see what the actual ultimate impact of tariffs are going to be. I think one of the reasons we have not seen tariffs have a big impact thus far this year is because they really have not been aggressively implemented, to be fair. It’s been sort of red light, green light.

I mean, they announced them in April. They delayed until June, and then they punted until August. And then the administration has given a pass to certain countries that have curried favor with the president. And so we have not really seen a full-scale implementation of the tariffs that the president announced in early April.

And I do think when you look at the data, we are seeing some tariff-related inflation building in the system. And so I’m curious to see what does inflation look like in the first half of next year. So that perhaps that could be a shocker what happens with inflation. If inflation really starts to up again, then the Federal Reserve, frankly, will have no choice. It’s going to have to raise interest rates, or it’s going to have to tolerate higher inflation. And it’ll be really curious to see how the bond market responds to that.

So those are some of the things I’m on the lookout for heading into 2026–

what happens with valuations, what happens with inflation, what happens with interest rates. And then I think the final thing, Josh, would be what happens geopolitically? We’re seeing a significant military build up in the Caribbean given what’s happening in Venezuela.

We’ve seen energy prices come down pretty dramatically. The Saudis have really cranked up production to be clear. Oil’s at around $55 a barrel. That’s not because we’re drilling here at home. It’s because the Saudis, OPEC, they’ve really cranked up their production. And that’s really pushing down the price of oil. So it’ll be interesting to see what happens here with all of these developments that are happening globally.

A tremendous amount of uncertainty. The world’s always very uncertain. But it’s really a tremendous amount right now. What do we, as investors, need to do to prepare for the year ahead?

Josh, I’m going to keep coming back to what we’ve been advising clients to do for decades, and that is to broadly diversify. But more than that, to really build that fortress balance sheet, making sure that you are exceptionally well-diversified across both public and private markets–

public stocks, public bonds, real estate, private equity, private credit, things like that. I think that makes a lot of sense.

Making sure that you have appropriate liquidity for you and your family in terms of cash and money markets and US treasuries and things like that, making sure that your financial planning is up to date, that your balance sheet is well managed. If there’s one piece of advice I could give all of our listeners, it’s to stop looking at your investment statements and just focusing on a stock or a fund or an account. We really need to step back and look at our whole balance sheet, our assets and our liabilities, our real estate holdings.

And like I said, maybe you own a private business. Looking at all of that and making sure that those things are working together to really protect the economic security of our family. I think that’s the best advice I can give folks as we enter the end of 2025 and begin to pivot and turn the page and enter into to 2026–

build a fortress balance sheet.

Don, I think that’s a great place to leave the discussion. Thanks so much for being here today.

Great. Thank you so much. Appreciate it.

If you’re already a Mercer Advisors client, don’t hesitate to reach out to your advisor to think about how your position for the year ahead to check in on your fortress balance sheet approach. And if you’re not a Mercer Advisors client, but you’re interested in more information, go to our website, merceradvisors.com. It starts with the phone call. Thank you so much for being with us today. This has been Market Perspectives.

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