Q3 Market Outlook: Markets, Interest Rates, Inflation, and More

Welcome everyone to our second quarter market outlook. Today I’m very pleased to be joined by Don Calcagni, our Chief Investment Officer and Kara Duckworth, a partner here at Mercer Advisors. We’re planning to cover a lot of things today, markets, interest rates, inflation, more, economic updates.

A few housekeeping things as we get started here.

Please keep in mind that all of the information that we are presenting is educational and informational. It should not be construed as personal financial advice. If you have questions specific to your own portfolio, your own financial plan, please reach out to your wealth advisor.

Additionally, we appreciate the many questions that you all have submitted in advance of this broadcast. It helps us tailor our content and we would like to answer as many questions as we possibly can during this broadcast. So if you have questions, please submit them to the Q and A, which is located at the bottom of your screen. We will do our very best to answer as many of them as we can as we go along.

So Don, I know we’ve got a lot to talk about. Let’s get started.

We do. Thank you, Kara. Thank you everybody for giving us some of your precious time listen into our broadcast. So yes, let’s jump in.

We have a lot to cover. There’s been certainly a lot happening, Kara, in the U. S. Economy and in U.S. Financial markets geopolitically. Certainly been a lot happening here over the past number of months, but certainly here in the past couple of weeks. So just some high level dashboard data.

Some of this is a little stale. Remember, economic data is generally always backwards looking. So there’s always new information coming in that our team is working to digest, put it into a visual format.

So just keep that in mind. This data is always changing. So for example, headline inflation over here in the upper left hand corner was four point two percent in May. It has actually moderated.

It came down, Kara, in June to around three point five percent. A lot of that was driven by energy, but also some methodological issues related to the government shutdown in October, having to do with shelter costs and things like that. But I think it’s objectively true that, look, gas prices, the price of energy had come down here throughout June. It has since, of course, ticked back up, given that the war between the United States and Iran has heated up here in the past week or so.

And so naturally, that’ll be a concern that we’ll be looking to understand how that is going to impact inflation here in the months in the months ahead. But the four point two is a little bit of a stale number. We’re down to three point five. So at least in theory backward looking.

That was that was good news. You can see the average gasoline price had come down.

Again, that’s backward looking remains to be seen, Kara, what that’s gonna look like now here going forward, given that hostilities have begun anew in the Persian Gulf. So some of these other things we’ll touch on. Unemployment rate continues to tick a little bit lower. So that’s always good news to see.

U. S. Stocks, I mean, market returns have been strong pretty much across the board. So we’ll get into that here momentarily, as well as interest rates.

We’ll touch on that here in a little bit. In terms of the economy, economic growth came in at two point one percent in Q1. We’ll touch on that in a moment here. But what I really wanna keep highlighting for our listeners, Kara, is that what really drives economic growth is the growth in the number of workers plus the growth in how much we can produce as workers.

And so that’s really a function of technology. And I know many of your questions have to do with AI and technology and hyperscalers and all of this stuff. And that is critically important in order for the workers that we do have that are powering the US economy so that we can all be as productive as possible. Many of you often ask whether or not we use AI at Mercer Advisors.

And indeed we do. We use AI for a lot of different functions.

And so we can talk about that here Kara perhaps in a few moments as we dive into some of our listeners questions. But what I really wanted to highlight on this particular slide here is this. Is that the growth in workers has really flatlined and it’s expected to flatline over the next decade. That has massive implications for economic growth.

But it also has significant implications, for example, for how we fund social security, the whole social security regime. That model is predicated on having more workers, a growth in workers to pay into that particular system. So the key takeaway here from this is that there are public policy questions that we as a society, as citizens, that we are going to have to address in the very, very near future as it pertains to how we fund government and how we fund a lot of these retirement oriented social programs that many of our clients and certainly many Americans rely on. And so when we look at growing the economy going forward at the moment, Kara, we do have to make significant investments in technology so that we can continue to produce more with the workers that we have.

A little bit on oil markets here.

As we saw here, we had a cessation of hostilities there for a while. And we saw the tanker traffic through the Strait of Hormoz increase. It is now coming back down, obviously given that the shooting has restarted. And so that is a concern putting upward pressure on energy.

Here, we’re just showing you gasoline futures. This is the price over here on the left. And you can see that where the market was pricing gasoline futures on February twenty seventh. That’s right when the war began. So that gives you a sense of where was the price of gas previously and where is it now? And where do we think it’s going to be over the remainder of the year? So we are expecting and financial markets are expecting that gasoline prices will be higher for the remainder of the year relative to where we were at the beginning of the year.

Fertilizer, fertilizer naturally a very key input for growing our food. And one of the things I just wanted to highlight is that we saw the price of fertilizer urea is a key ingredient in fertilizer spike quite significantly when hostilities began in the Persian Gulf. You can see that it came down here by June and July. And that is great.

However, it was really elevated during the peak planting season in the northern hemisphere. And so that naturally is going to have an impact on food inflation in the months ahead. So just something to keep in mind. It’s great to see that inflation has come down a bit in June.

That’s good news. But I don’t think we’re out of the woods yet as it pertains to inflation. I mentioned a few moments ago that economic growth came in at two point one percent in Q1. And there’s two things I’ll highlight here in just looking at this chart.

Over here, these different colored names, these are the key pieces, the LEGO building blocks that go into calculating GDP growth. GDP is gross domestic product. That’s how we measure the size of the U. S.

Economy and the growth in the U. S. Economy. And these are the key pieces that either add or detract from economic growth.

And historically, the biggest contributor is all of us, consumers. When we go out to eat, when we go shopping, when we go to Amazon and we buy stuff, consumer spending typically makes up about seventy percent of economic growth or all economic activity in any given year. You can see that that came in, that shrunk quite significantly here in Q1. And I’m gonna comment on that here in the following slide in a moment.

But you’ll see that the biggest chunk at the moment is what we call business fixed investment. I think that’s really just code for AI investment, technology investments, and things like that. Again, going back to that prior slide where we talked about making sure that our workers are very productive, given that we don’t really have a growth in workers, given that immigration has gone negative. We’re seeing an exodus of workers from the United States, which is really a one hundred and eighty degree turn from where we were historically.

And naturally, we can only reproduce our population so quickly. And so the reality is that the growth in workers is pretty flat. So that’s that gray box, that investment in technology that will continue to be critical in the years ahead to help economy grow.

I did wanna touch on this consumer spending comment that I made by giving you some information on what economists often refer to as the K shaped economy. And I wanted to touch on this for a moment here. I spend a significant amount of my time on the road speaking to clients, usually in larger group settings. And I think sometimes there’s a sense that economists are a bit tone deaf.

We tend focus on this high level aggregated data at the economic or the national level. And while that data can be very good often, when you look under the hood and you look at the distribution of that data across quintiles or across the American population, what we see is that, you know, there are some families that do very well. There are other families that naturally do less well. So a a couple of things I just wanted to highlight.

The blue here is labor compensation. And one of the things we’ve observed over the past thirty, forty years is that the percentage of national income that has gone to labor to all of us as workers has actually declined. It’s declined fairly significantly, while corporate profits have increased. So the growth in corporate profits is really good for all of us as investors, as shareholders. We’ve seen we’re having a great earnings season, Kara, right now. We’re seeing earnings growth at around twenty four percent. So that’s very good through the lens of investors.

But I think it’s important to keep in mind that there are also workers whose incomes have struggled to keep up with their spending needs. And we see that over here in this upper right hand quadrant. What we’ve done here, or I should say what our friends at JP Morgan did here, is they broke the U. S. Population, the group of consumers that powers that blue piece of that economic growth that I was sharing with you a few moments ago. They broke it into quintiles, into fifths, right? So we have the bottom twenty percent, we have the top twenty percent, and then we have the middle.

And the takeaway from this is that the top twenty percent control over fifty percent of all income in the U. S. Economy. And they collectively are responsible for about thirty eight percent of all consumer spending.

That is very significant. And it’s good to see that the gray bar is taller than the blue bar. As you would expect, this is the population of Americans who can afford to save and invest. But as we work our way to the left, what we see is that that becomes inverted, where we see that there are other Americans that are struggling to keep up in terms of their income relative to their spending.

Again, I think that is something that naturally I think we need to try to address from a public policy perspective, but it actually has implications for market growth, returns on stocks, economic growth, all of those things going forward, if we’re gonna sustain good strong capital markets in the decades ahead.

So again, that’s more of a comment and more of an acknowledgement that I just want folks to understand that we understand, we know that there’s a distribution in terms of how people are feeling about the economy. And that not everybody naturally feels equally good about what’s happening in the U. S. Economy.

So let’s pivot and talk debt and deficits. Carrie, I know we had some good questions on interest rates and inflation that came in. So we’ll tackle those here in a few moments. But again, one of the things that has not changed I sometimes, Carrie, I feel like a broken record when I go through these slides.

And that is that government spending, we’re living well beyond our means from a government perspective. So you can see this perforated white box up here. This is the deficit. The deficit this year will likely top two trillion dollars That’s with a T.

That is a lot of Benjamins. That’s a lot of Ben Franklin’s. And so that is a very significant gap in federal spending relative to the taxes that we collect. The things that we want and need as a society far exceed our means to pay for those at the moment.

Or I should say more so perhaps, Kara, our willingness to pay for those in the form of taxes. And so you can see here that right hand bar, those are the total taxes that the federal government collects, payroll taxes, income taxes, and things like that. But you can still see there’s a big gap there relative to the things that we want to buy, which are here on the left. And I’ll just highlight this net interest expense.

This is the interest that all of us earn as investors. Many of you on the call that own U. S. Government bonds, right?

We get that in those interest payments. We’re financing a lot of their debt. The challenge is, is that given the size of the federal debt, and given that we’re adding to it to the tune of two trillion dollars a year, that net interest expense, that dollar amount is poised to continue to rise going forward. And so that logically will start to squeeze out some of these other things that as a society we like to spend money on.

Strong defense, that’s the purple there. We’re also engaged in a military conflict. That’s not free. That’s going to cost us something in the form of government expenses.

Naturally, have social security and Medicare, which in theory are financed by payroll taxes.

Not just in theory, but actually from a legal perspective, that’s how those programs are structured. And that’s one of the things that ultimately we will have to address per my prior comments. When we have fewer workers paying into these systems, into these social programs, it’s going to be more challenging to sustain those in the very near future. I think, Carrie, I think I just read that social security is now the reckoning is looks like it’s going to come in two thousand thirty two or two thousand and thirty three, sometime in that window.

And by the reckoning, I mean that something needs to give. They either need to get a new source of financing, meaning maybe perhaps increase payroll taxes or social security taxes, or they need to reduce benefits. And I think the last estimate I saw Kara was that they were going to have to cut social security payouts by about twenty five percent. That’s pretty significant reduction, obviously.

So in terms of that interest expense, I touched on that here in a moment. This is the debt maturity schedule for the US government. And so the way to look at these bars on this slide is this is the amount of debt that the government needs to refinance in each of these years.

And as you’ll see here in a moment, interest rates today are higher generally than they were at the time when the US government originally borrowed these dollars. And so what that means is that it looks like we’re going to be refinancing into higher interest rate debt. As many of you who own a home likely know, I mean, you took out a mortgage in say twenty twenty or twenty twenty one, you locked in a really, really low interest rate, you sure as heck don’t want to refinance that now into say a six point five percent thirty year mortgage. If you locked it in at two point five percent, you don’t want to refinance a thirty year mortgage at six and a half.

But the US government does not have a choice here. Right. This is all short term debt that has come due. Right.

So these are bonds that the US government has to return the principal now to those investors, which means they have to borrow new principal in the free market, in the open market at today’s prevailing interest rates. And so as we can see from this particular slide, we have seen interest rates rise. So this is the yield curve. It just shows us the interest rate on debts of different maturities, right?

So a ten U. S.

Government loan would be right around four and a quarter. Right in that window. Right? Maybe four point two as of December.

But it’s now risen to four point six. And so this is a pretty big shift. And it’s important to keep in mind here, the Federal Reserve has not raised interest rates. They have not raised interest rates this year.

This is the free market, the bond market raising interest rates, saying to the government and saying to all of us as borrowers that we need to raise interest rate to better interest rates to compensate us for the risk, whether that be inflation risk or something else that’s out there in the marketplace.

Kara, I think we had a question in the queue if I recall.

We’ve got a couple of good questions here while we’re on interest rates. So Tim’s asking, what is the latest future interest rate move prediction?

Talked about that a bit. But then secondly, Rob is asking, if we had to choose, would we rather see inflation at two percent or a drop in interest rates?

Would say that, Rob, that is an outstanding question. I think economists will debate this until the cows come home. I think the right answer is we want both. We would love to see lower interest rates and lower inflation. Now, two move in tandem.

Okay? I think what we really need to see is what we call real interest rates, where the interest rates on debt are higher than the inflation rate. And so this this raspberry colored line in the middle of the page, this is the headline inflation rate as of for June, the print that we got last week.

And so you can see that we do have real interest rates even down here on the short end of the curve for say a three month or a one year Treasury bond. You can see here that if you were to lend that money to the U. S. Government at the moment, you’re earning more than inflation rate. I think those real rates are important, Kara, because I do think that savers need to be compensated for putting their capital at risk. Now, there’s this argument that the US government is a risk free borrower. I think that has been challenged of late, given some of the fiscal cliff or debt default crises that we’ve had.

On top of that, I think what the bond market is actually pricing in here is the prospect of higher inflation. And so, think that’s the bigger risk that bond investors are trying to protect themselves against is the purchasing power of their dollars. And so, in theory, to Rob’s question, it’d be nice to see inflation be much, much lower for all of us as consumers at around two percent. But I still think it would be important that we have real interest rates then let’s call it of say three percent or two and a half percent on that short end of the yield curve, shorter maturities. Because I do think those retirees, those investors, they do need to be compensated for delaying the consumption of their capital by putting that capital at risk.

What was the other question, Kara?

What’s the latest future interest rate move prediction?

Correct. So we can answer that by actually looking at the market. We’re looking at futures. And so what we see here is that the market at the moment is forecasting at least one interest rate increase between now and the end of the year.

You can see that the market is currently pricing in about a twenty five basis point. That would be a quarter point increase in interest rates between now and the end of the year, that has naturally spiked. Coming into the year, we were expecting two, perhaps as many as three interest rate cuts. But the war in the Persian Gulf changed that view, changed that narrative.

The uptick in inflation changed that narrative. And again, at the moment, markets are pricing in at least one rate hike between now and the end of the year. Another important point here, mean, Kevin Walsh, incoming, not the incoming, he’s now the chair of the Federal Reserve. He is one vote of twelve.

And so there are eleven other FOMC members who have a say. So just so all of our listeners understand, it’s not one person who gets to decide the future path of interest rates. There are twelve economists on the Federal Open Market Committee. That’s the committee within the Fed that sets short term policy rates.

And so, if Kevin Wash wants to cut interest rates, he’s on the record for saying he’d like to cut interest rates. He’s got eleven other people that he’s going to have to win over to his side or maybe not eleven, but at least five or six of them so that they can have a majority on the FOMC.

So and again, this next slide also I think speaks to that question. What’s that longer term perhaps future path? You can see here that the market and the Fed, FOMC, this is the blue, I guess that’s blue. These little blue diamonds, and then the market are these green or emerald colored diamonds. And so what we’re showing in this slide is that future forecast where we think interest rates are going to go over the next several years. And so you can see the short term bump here.

This is that short term quarter point perhaps bump, maybe a little bit more that we expect between now and the end of the year and maybe into early next year. But longer term, I think it’s clear that both the market and the Fed are expecting interest rates to be on a downward trajectory. Once we get past, hopefully, this geopolitical conflict, this military conflict in the Middle East, once we get past that, hopefully we can get back to a downward trend in interest rates. So let’s talk markets.

Let’s talk returns. It has been an amazing twenty twenty six, pretty much across the board, despite higher inflation, despite higher interest rates, despite the war in the Persian Gulf, despite I think some lingering headwinds from tariffs and things like that. And even despite the decline in consumer spending in Q1, when we look at those GDP numbers, we’ve seen really, really strong market returns across the board. Emerging markets have performed the best up about twenty four percent year to date.

US small companies have done amazingly well. It’s been a long time. So it’s great to see that they’re really for diversified investors really contributing nicely to returns. We see the S and P, US large cap companies, US stocks coming in at around ten percent.

So that’s great. And also, again, really strong returns in developed non US markets, places like Canada, Japan, Western Europe, Australia, it’s great to see that those markets are also contributing handsomely to global equity returns. Bonds, positive, flat because for the US taxable bonds, we saw that bump there, Kara, when we looked at interest rates. As interest rates rise, bond returns generally come down, at least in the short term.

Over the long term, you’re going to earn those higher coupons, those higher interest rates. But in the short term, the price of existing bonds will has to decline in order to accommodate those interest rates.

So Don, while we’re here on these asset classrooms, we’ve got some questions about international allocations. So a bit of obviously you don’t have a crystal ball, but Michael’s asking do you expect the international market performance to continue to exceed the U. S. Equity market for the balance of the year?

I mean, short answer to that is I have no idea, which is why we own all of it.

And so I think that’s important. You should always be very careful if anyone tries to answer that question with any degree of conviction because that’s probably more salesmanship than it is good economics. I’m trying to predict these things as exceptionally challenging. What I would say is this, is the U.

S. Dollar has increased in value over the last five years, a total of about maybe nine or ten percent. We gave about seven percent of that back over the past, let’s call it eighteen months. So the dollar has declined about seven percent over the past eighteen months.

I do think that there are headwinds for the US dollar.

And at the moment, though, we’re seeing a flight of investor capital into dollars, given the war in the Persian Gulf. So the US dollar is still very much a global safe haven asset. That’s what investors the world over would prefer to hold in times of uncertainty. So I do think when we return to times of certainty, meaning that the shooting in the Persian Gulf stops, I do think that it is likely that the dollar may drift lower.

And I do think and that is a tailwind for investors who own non US, non US assets. Additionally, we are also seeing strong earnings growth in non US markets. Emerging markets earnings growth is unbelievably high. If we look at earnings growth in developed markets, even in places like Western Europe and Japan and places like that, we’re seeing double digit earnings growth.

So, this is all very good from an investor perspective. And so, we’re also naturally, Cai, we’re seeing great earnings growth here in the United States. Earnings growth right now is at about twenty four percent year over year. That’s exceptionally strong.

And that’s also helping to bring down valuations on US stocks. Non US stocks are still far cheaper than US stocks. And so for those investors who are looking for a bargain, who are looking for strong earnings growth, who are looking for perhaps a bit of a hedge against the strength of the US dollar, non US assets are still really strong, really have a really strong investment case behind them at this particular point. So, I can’t tell you what’s going to outperform in the next ten minutes or the next six months.

But I can tell you that there’s a very strong case for diversifying broadly across both US and non US companies. And it’s because of that diversification, by the way, that Mercer clients have done amazingly well over the past couple of years. I mean, we have significantly outperformed US equities over the past couple of years. And by that, I mean our equity portfolios.

So I encourage you, if you have questions about that, speak to your advisor. They should be walking you through that. You’ll see that this year we’ve outperformed U. S.

Equities on our equity portfolios to the tune of two percent, three four percent, sometimes five or six percent, depending on the strategy. So, I encourage you to go through that with your advisor. But that outperformance has come from the fact that we own US small companies, that we own emerging market stocks, that we own developed non US stocks, as well as taking a multifactor approach, which I’ll touch on here in a moment. So Kara, any other questions there in queue related to high level market returns?

Yeah, maybe a little bit while we’re still talking about international and emerging markets to talk about portfolio construction. You touched on the fact that these particular sectors have outperformed. And so how do we build portfolios and decide how much we’re allocating? It looks pretty tempting in the last twelve months that emerging market equities are up forty four point two percent, and yet they’re not the majority of our portfolios. But questions here specifically from, Suresh and from Michael about why don’t we have more exposure? For instance, their question, Michael’s question was about Asia, but call it the developed international and Suresh was asking about India. So if you can talk about how we determine the structure of that.

Yeah, no, absolutely. It’s an outstanding question. The short answer is risk management diversification.

You look at any one of these particular asset classes, there’s a real danger in going all in or too heavy in any given sector or asset class. We’ve seen really unbelievable returns on emerging markets here over the past couple of years. And yes, we own those. That’s great.

We’re proud to own those. That’s great. We’re well diversified. But there were many, many times when emerging markets were out there in the wilderness.

And I had clients asking, why do we own these things? Why don’t we just put all the money in U. S. Technology stuff?

And well, that’s why. Right? And like I said on the prior question, you really don’t know how these things are going to perform over the short term. What you need to understand is that we believe capitalism works.

We think that there’s value in diversifying across both US and non US companies. Look, we own equities in India. We own equities in Eastern Asia, Japan, and all these other really rapidly growing markets. The question around how do we decide how much to put in?

All of that is ultimately informed by the market. So we take care of what’s called a market weight. So when you look at the value of all of the global stock markets aggregated together, from there, you can actually derive a percentage. You can say, okay, the U.

S. Equity market makes up, let’s call it sixty eight percent of the total global equity market.

We use that to inform how much we want to allocate within equities. Forget the bond part of the portfolio, within equities, how much we want to allocate to the US, and similarly to emerging markets and non US developed markets. So we’re taking a market weight. Oftentimes, you’ll hear some analysts talk about going overweight or underweight. What they’re really talking about is overweight or underweight relative to the market’s weight.

We like the market weight. We like the market weight because it’s really, really hard to do better when you try to guess whether you should be overweight or underweight. That gets into being very tactical. What we see is that most investment managers, and by most, I mean somewhere in the mid ninety percent range, most investment managers are very they have an abysmal record when it comes to trying to forecast whether to be overweight or underweight some of these markets.

Our view is you don’t have to be smarter than the market. You can actually embrace the market weights and actually do quite nicely over time. And I think the last couple of years, Kara, just like I mentioned a few moments ago, is just really evidence of that. We de risk our portfolios, and we can still earn really, really strong returns for investors without trying to predict how much we need to own in Japanese equities and whether we should be overweight or underweight.

Great. That’s helpful, Don. Thank you.

So let’s move on here. I did want to touch on factor performance. You hear me and other folks at Mercer often talk about taking a factor based approach.

To some degree, Kara gets to that last question. Within markets, we use factors to determine how we want to diversify within US equities or within emerging markets.

And if you’re looking to learn more about factors, you should talk to your advisor. We actually have a book that we put out here for the past three or four years called The Investment Handbook that actually explains what these things are. What is momentum? What is value? What is quality? These are just quantifiable, transparent characteristics that have been shown over long periods of time to outperform the core index.

So, if you’re asking yourself, well, gee, how can I do better perhaps than owning an index fund in a portfolio? Well, academia has actually answered that question for us. The answer, the consensus answer at the moment from financial economists is that you want to focus on factors. So at Mercer Advisors, in the majority of our portfolios, we do focus on factors. We take a multi factor approach to investing within those asset classes that I just showed you on that prior slide.

And so you can see here, for example, within the US, multi factor equities have returned about twenty two point seven percent collectively year to date. You can see that momentum has done really well, about thirty, values up about twelve, and then there’s quality at about eleven. Then you can see how the core market has done about eleven. That multifactor approach is delivering a lot of value in portfolios, but we see that same pattern persist outside of the United States. You can see international factors multifactor up fourteen percent versus ten for the core index. Then similarly in emerging markets up twenty six percent versus twenty one point nine for

Now related to the last question, you may look at that and say, gee, why don’t you get tactical and try to time factors?

I wish we could. There is a whole cottage industry within academia that I mean there have been you know forests of trees that have been cut down to print all of the doctoral dissertations trying to predict these things. And none of them really hold any weight. We just know that when you build a portfolio, you want to tilt the portfolio towards these things.

And that over time, what we have observed empirically when we look at the real world market data, these investors with these types of tilts in the portfolio have done amazingly well. Many of you have heard of Warren Buffett, I presume. Warren Buffett is really a factor based investor. Really, he’s a multifactor investor.

His whole investment philosophy focuses on value and quality. And so hopefully that gives you some confidence that there’s something to this approach, this multifactor approach.

Kara, I think we had a few questions related to the MAG seven.

Sure did.

And I think we had one in there something about what does the future look like. Is that right?

It was actually from Edmond asking, do you think the MAG seven will continue to underperform the other four ninety three in the S and P five hundred?

Well, that is a very intuitive question. That means that Edmund actually knows the data. And so that’s the purpose of this slide is just to share with you that year to date. If you look at this blue line and this green line, the green line here, these are the Mag seven, right? So these are these big technology companies, Apple, Amazon, Google, Meta, Microsoft, so on and so forth.

They were the big winners here for the past number of years. Really explosive returns. Everybody wanted to own them. And yet coming into this year, what we observe is that they’re up only about five percent so far for the year.

Whereas the S and P four ninety three, the other four ninety three companies that make up the S and P five hundred, those companies are up eleven percent for the year. So again, it’s good that, Edmund, you’re paying attention to the data. Will that persist? Will that continue?

Hard to say.

We don’t know. Which is why we back to my other answer. It’s why we own all of this stuff. Right?

We don’t know. I’m really glad that we own those smaller companies. Because as I showed you, they’re up about twenty two percent. When we look at the broader market beyond the S and P, we see really strong returns in those smaller companies.

Despite the fact that everybody has been wanting to own the Mag-seven. This is why you shouldn’t go overweight things. You should just take a market weight to these things. Here’s what I would say.

There is a significant amount of investment going into things like AI and data centers and all of this stuff.

And AI, because it’s been so successful, as you see with all technologies, it’s going to invite competition. We’re going to see more companies pour in to this particular space. Well, what happens when we have more competition? We typically see prices start to come down.

Right? That means profits tend to get squeezed. Not saying that’s going to happen overnight, but that is the normal trend with these sorts of things. So keep that in mind.

There’s going to be more competition here within this space over time.

That’s going to be a headwind for those companies to continue to do well. It doesn’t mean that they’re not going to be able to overcome those headwinds. Maybe they will. We just don’t know.

So that’s one thing. The other thing is that it is very likely, and I think this is the truth with AI, with data centers, and things like this, is that there is going to be increasing public pressure on these companies to be better regulated and to be better corporate citizens. And so by that, I’m referencing data centers, for example. We are seeing a massive pushback against data center construction across the United States. Certainly, in my home state of Pennsylvania, we’re seeing significant pushback. People aren’t happy about seeing farmland chopped up and put into data centers and things like that. So these things are going to be headwinds for those types of companies.

So I would just be careful. My advice to investors here would be to take a market weight. If you just own the broader market, even if you’re taking a multifactor weighted approach, you’re already going to own these companies. So I would be very careful. And I would advise against taking a concentrated approach to investing in

So another question, Don, John, because probably people do have concentrations is what is Mercer’s stance on taking profit on some of the very high return assets? He gives an example of Micron, SanDisk, Nvidia, etc.

Now, a big part of that Kara is a financial planning question. The advisor should always be part of that conversation.

My view, our view, our position as an organization is you should always look to take those profits through broader diversification.

If you own Nvidia or something like that, you should shave that back to a market weight. This gets back to what’s the market weight for these types of companies? That’s how I would encourage us to think about it. We’re not saying that you don’t want to own these companies.

Quite the opposite. We’re saying you want to own them, but you want to own them in bite sized chunks. You don’t want to go crazy and have them dominate your entire balance sheet. And there’s lots of strategies that your advisor can work with you on to tax efficiently diversify those positions.

So, if you are overweight Apple, for example, you should really look to shave that back to somewhere around a market weight for Apple. Talk to your advisor, look at your entire balance sheet, look at the size of the entire market. Your advisor has all of this information. They have all the resources to help you with this.

And then from there, they can say, look, you’re overweight, you have an extra million dollars in Apple, we should tax efficiently try to diversify that across your balance sheet.

Thank you.

Well, let’s finish it up here and we’ll get into some more. These are great questions, by the way.

What I just wanted to highlight here is, know, Kyle, we just had SpaceX go public, had a lot of clients asking, you know, gee, why shouldn’t we be buying that and putting a lot of capital in that right now? You know, we just had this question around the Mag seven.

There are many, many investors the world over, we have a tendency to chase performance. We have a tendency to want the big names in our portfolios because we get really excited about the headlines that we observe in the marketplace for these companies. My point in sharing this slide with you is that the big winners in the market change over time.

So interestingly, no one’s asking me about Eli Lilly.

Everyone’s asking me about SpaceX, Nvidia, Apple, Alphabet, Microsoft, so on and so forth. But if you look back in the past, and you look at, say, back just ten, fifteen, twenty years ago, many of these companies didn’t even exist.

Right? Look at Sears, right? A lot of folks like to talk about Amazon. And many of you have heard me say this before. Sears was the Amazon dot com of the twentieth century. Sears no longer exists. So markets change, the makeup of markets, the companies that make up the market change.

So my message here to all of us is be careful, don’t fall in love with any company or group of companies because they will not love you back. They don’t even know you exist. So be very careful falling in love with companies.

SpaceX just went public a little over, I guess it was about a month ago now.

Many of you know that we always urge extreme caution when it comes to IPOs. And I think SpaceX is yet again another example of why you need to be very careful not to buy IPOs right when they begin trading. SpaceX was priced at one hundred and thirty five dollars a share.

But that’s not the number that it started trading at. It started trading at around one hundred fifty. It quickly spiked up to around two twenty five a share and has since come down about fifty percent. So we’re right around one point two one dollars if I recall. I think that’s where it was this morning before the open.

And you can see the red here on the page showing you the three and six months returns on these IPOs after they went public.

SpaceX will certainly at least at the moment looks like it’s going to add to the red ink on this page. And so again, I strongly caution that we be very careful against chasing IPOs on the open. Some of you have asked about the US dollar. I mean, look, the US dollar continues.

You can see this big purple chunk of this pie chart here. The US dollar continues to be the world’s most highly favored global reserve currency. So I just want to caution against, know, whether it be a cryptocurrency evangelist or somebody in the dark corners of the internet who’s claiming that the U. S.

Dollar is going away. There is no evidence that the U. S. Dollar is going away.

Funny, cryptocurrencies continue to be priced in U. S. Dollars. So keep that in mind. So U. S. Dollar, we don’t see that going away anytime soon.

Last thing Cara that I think we’ll end on here and then let’s open it up for more questions. I just love these questions that are coming in.

It’s not always obvious in markets what we should be investing in. And so I would caution against chasing investment theses, plural, that seem like an obvious no brainer.

And the reason I’m sharing this with you is I was in a conference in Naples, Florida in late February, actually it was early March, right when the bombing started in the Persian Gulf. And I remember meeting with an asset manager, a wholesaler who said, now is the time. It is obvious. We want to own aerospace and defense stocks. And so they had a whole ETF structured around investing capital in defense companies. And it seemed logical at the time.

We’re spending two million dollars per Patriot missile to shoot down a twenty five thousand dollars Iranian drone.

It seemed logical that, yes, you would want to own the companies that make those missiles and sell those to the US government.

So it seemed obvious. But I think when we look back here over the past three months, what we observe is that defense companies have actually significantly underperformed the broader US stock market. You can see that performance difference there of maybe fourteen percentage points at a time when many argued that it was obvious that we should be investing in defense companies. And I see this same thesis, the same pattern repeat itself, Kara, where people will come to me and say, Don, it’s so obvious we should own gold and silver. Late January, folks were saying, Don, why do we not own gold and especially silver? Silver was doing amazingly well.

Well, those those currency those precious metals have collapsed significantly since that particular time. So you just want to be very careful chasing things that appear to be obvious.

So I think the key takeaways are these.

Being careful not to chase returns.

The US economy continues to do well. That doesn’t mean that you should go all in on US stocks or all in on emerging market stocks. You want to diversify broadly. Some of you have challenged and say, but equity valuations are really high.

Yeah, they are. They’re high relative to history. But keep in mind, earnings growth globally, not just here in the United States, but globally, is exceptionally strong. And that’s actually helping to bring down valuations throughout the market.

And this third point, I think, is critical. You guys hear me say this all the time.

And I will die on this hill. Everything in moderation, broad diversification.

How we’re going to get you to economic freedom. That’s how we’re going to keep you in economic freedom, by resisting any temptation to chase shiny objects, whether that be literal, like something like gold or digital, like cryptocurrency, or even something perhaps less exciting, like defensive stocks. Broad diversification is really the best approach to achieving economic freedom, but remaining in economic freedom. And the best way to do that is to really tune out the noise. Remember the media, the business media, they sell advertising, they do not sell education. If you want education, go back to college, take some courses at your local university. But the business press, the business media, they do not sell education, they sell advertising.

And we are the product. So their job is to capture our eyeballs, not to enlighten us. So with that Kara, let’s stop here and maybe we can open up for a few more questions.

Absolutely. So we’ve got a couple here and you you touched on it just briefly there, Don, but Charlotte and Leslie and George are asking about precious metals, of what is the outlook? And is gold and silver part of our portfolio? Why or why not?

So gold and silver are not part of our portfolio. And that is because those assets are what we call speculative assets. They’re not investable assets. What do I mean by that?

In fact, Kara, we actually wrote a whole piece on this. Was it last week or the week before? That has since been posted to the insights section of the Mercer advisors website. So I would encourage you all to go check that out.

You can read that. Actually review what is a speculative asset, what is an investable asset. And the key difference more than anything, mean, there’s a few other differences. But the key difference for me is cash flows.

You know, when I own a company, a company is engaged in generating profits, right? They’re generating what we call free cash flows, they have earnings, right? Those are the things we’re looking for. Gold does not pay dividends, it does not earn anything.

There’s no management team that’s managing gold that can help it do better if it’s not doing well.

These tend to be and for those reasons, they’re speculative, you have no idea what they’re going to be worth three months, six months, ten months, you know, ten years from now, you have no idea. And so for those reasons, we try to stay away from those types of investments. Know and respect it. Even on our own investment committee, we have folks who’ve made arguments for owning things like gold and silver.

They are in the minority. Otherwise, we would have gold and silver in our portfolios at this point.

But at the moment, our collective thinking of our investment committee and myself is that, no, these are really just speculative assets that tend to be momentum trades and really aren’t assets that should be part of a very long term strategic portfolio.

Great. That’s helpful. And going back to something else that you touched on lately on the AI topic. We’ve got questions from Brett and Luis about an AI bubble. Is there a bubble due to the market being held up by AI spending which may be slowing down soon?

And some of that maybe has to do with, you mentioned this as well too, James is asking, what do you think about the issue of communities fighting against data centers? Will that potentially slow down that momentum?

I do think, and this kind of gets back to what we were discussing a little bit ago, is that look, AI companies are going to have more competition. Right? So that with competition, you should see prices for AI related services come down. That’s logical.

More competition, we should see prices condense. That’s going to make it harder for a lot of these big hyperscalers, these AI related organizations, to sustain the seven hundred billion dollars in capital expenditures that we’re observing this year. It doesn’t mean that they won’t be able to do it, but a lot of that’s coming through debt financing. I think a lot of that’s really a function of what is the market’s appetite for continuing to provide capital to these companies to invest in these sorts of things.

And I do think that the market’s appetite is finite. There’s a limit. There’s an upper bound to how much the market is willing to finance these sorts of things.

I think the market’s appetite will actually decrease for financing these things as the costs increase. And this gets to the pushback we’re seeing socially and from a public policy perspective on data centers. And so I think there is a series of public policy challenges that we as a society are going to have to tackle around AI and around data centers. Data centers are very environmentally harmful.

I think that’s objectively true. I’m not trying to make a political statement here. They consume vast quantities of fresh water. Well, that’s not very good.

If you’re in a community that has a scarce supply of fresh water.

You know, seeing precious farmland get chopped up into buildings and asphalt is not a good thing. It’s not a prudent use. So I think I do think that there’s going to be more public policy pressure, more pushback on these things. And that’s going to force these companies to find new and creative ways to bring AI technologies to the market. I was talking to a friend of mine in China a couple of weeks ago. And he was explaining to me that in China, they’re actually beginning to put AI data centers under the ocean.

Since that naturally would cool the data centers. So I think there’s just interesting ways to solve these problems. This is where I think technology and engineering and creative intuition will be necessary. But I think that as those social costs rise and the real public policy costs rise, I do think that you’re going to see the investment perhaps in data centers and AI related technologies seems logical that it would begin to moderate. But time will tell. I mean, I’m not predicting that it’s going to moderate in the next year or two. But I think over time, we’re going to see it come in for sure.

Yeah.

And also on the AI front, we have a question that’s asking, you mentioned that we do use AI here at Mercer. There’s question, does Mercer utilize AI to help analyze the multifactor investment philosophy?

If so, how? And if not, why?

So we use AI for things like data aggregation, for looking for insights and things like that. Right? So as you can imagine, we work in a big data. I mean, it’s a term that gets thrown around a lot. But every morning, our team is actually using technology to analyze probably sixty thousand positions across our firm’s book of business, which is about one hundred and fifteen, one hundred and twenty billion dollars on any given day. So that’s a lot of information that our team needs to analyze. We have a team of about one hundred and twenty five full time investment professionals.

We have to use technology as a tool. But I think that’s the important point here, Kara, is that AI is a tool. Yes, we use it. We use lots of technology tools.

We also use Microsoft Excel. So we use lots of technology. But it’s just a tool. We do not trust artificial intelligence when it comes to exercising any judgment.

So even when we use AI to pull data together, to aggregate data, we do have humans that are physically auditing that data to make sure it’s accurate. Because there are times when you get AI can give you some wrong data. So you have to have an experienced enough team to know that when they’re looking at something generated by Claude or Copilot or whatever tech we’re using, to be able to look at that and say, wait a minute, something doesn’t smell right. That data looks off.

This is why we have humans always going through and just double checking and auditing a lot of that information.

But we do not use AI to make investment decisions. We use AI to aggregate data to help us analyze data.

And then that gets ultimately served up to our investment committee or to myself and my team. And we’re the ones that are ultimately making decisions.

We’re getting lots of questions that I can answer about this recording and this information. So first of all, yes, this recording will be available on our website, MercerAdvisors dot com.

It will be on our insights tab. It takes about three days or so to be able to post that and get it processed, but you will get a link if you were registered for this to view the recording or it will be available publicly.

So hopefully that’s helpful information. You can also find that article that Dawn referenced about gold, silver and crypto available also on our insights tab. And I know we had many questions that we were not able to get to on this broadcast. If your name was associated with them, we have recorded them and we do forward them to our advisors so that they can get back to you to be able to answer the question if we didn’t have time to get to it. But in closing, Dawn, we have a great question from Carol.

Don mentioned that Mercer publishes an investment guide. Is that available to clients and how do we get it?

Yes, it is available to clients. We wrote it for you. So yes, it’s available. You can get it by simply reaching out to your advisor and asking for a copy and they will be more than happy to get one for you.

Terrific and it gets updated every year.

Every year, every year.

That’s a great tool. Some good reading underscores a lot of our philosophy and also can help you have great conversations with your advisor. We really encourage you if you don’t have one of those to please request one because Don and his team and a lot of the rest of our company put a lot of time and energy into creating that and keeping it updated and current.

So with that, we will conclude. Thank you all for joining us. Please continue to reach out to your advisor and obviously we have access to Don and our investment professionals as well to continue to answer your questions. Thank you so much for joining us.

Thank you everybody.

Take care.

Bye.