Market Commentary – Q3 2025
As the third quarter of 2025 comes to a close, we find ourselves in a fantastical, financial kingdom where markets (much like fairy tales) are filled with trials, twists, and occasionally: happily-ever-afters. This year has been quite a story filled with scores of fascinating characters vying for leading roles in the timeless tale of our economy. At times it has been difficult to decipher who Prince Charming is and who has taken the role of the Big Bad Wolf. Throw in a government shutdown and the final days of 2025 are certain to be a fabled experience.
Goldilocks and the Three Bears
Wall Street loves to talk about bulls and bears; however, all eyes have been on two other animal spirits, most notably unemployment and inflation. These two measures, which are the sole mandate of the Fed, must be maintained in a “not too hot, not too cold” balance to ensure the U.S. economy remains in the “Goldilocks” zone. While economic growth has been steady, there are signs of a slowdown with ISM manufacturing continuing to print below 50, a sign of retraction. Despite 2nd quarter GDP being revised to 3.8%, many believe this is overstated due to a “front-loading” of inventory purchases ahead of the previously announced tariffs. As in the fairytale, the goal is to realize a happy medium, with growth neither too strong to overheat inflation nor too weak to spark fears of recession. Likewise, there needs to be harmony and balance in the labor market. However, with the growing use of AI and ongoing uncertainty around tariffs, hiring is essentially on hold and the “quits” rate suggests people are less willing to leave their job in search of a new one, even if it’s not “just right” (September ADP Unemployment surprised at -32,000 compared to a projected +45,000). This recent sluggishness in economic data alongside a gradual retreat in inflation finally gave Fed Chairman Powell the excuse he needed to drop interest rates by 25 basis points for “risk management” purposes (new target range of 4.00%-4.25%). While the market continues to price in two more rate cuts by year end, surprise inflation data or policy slip-ups including the government shutdown, which will suspend data collection and reporting from the Bureau of Labor Statistics (an important input into Federal Reserve decision-making) could disrupt the “Goldilocks” narrative.
Jack and the Beanstalk
Once again, technology stocks continued to stretch skyward with artificial intelligence, cloud computing, and semiconductor companies leading the charge. Like Jack’s beanstalk, valuations have grown to towering levels, prompting some to wonder how sustainable the climb may be. Still, the promise of innovation, and the golden eggs it may lay, continues to attract capital. Investors should remember, however, that Jack’s journey was not without giants. Elevated expectations leave little room for missteps, especially high up in the clouds. Despite massive amounts of investment in AI, the question remains whether this influx of capital will reap the required results in earnings to justify current valuations (are these really magic beans)? While growth and tech continue to dominate the headlines, they do seem priced for perfection. As in the story of the Emperor’s New Clothes, are we really seeing true fundamentals or merely admiring invisible finery?
Cinderella
Time will tell whether tech is the new “gold,” which continues to soar (up 45% YTD) and energy, the “picks and shovels,” as growing demand for data centers to feed the AI boom appears unstoppable. Energy prices remain subdued (much to the chagrin of Elon Musk), possibly due in part to a weakened U.S. dollar, which is down ~10% year to date. Prior to 2019, the U.S. dollar and crude were negatively correlated; however, as the US has become a net-exporter of oil vs. a net-importer, this relationship has reversed. Much like the evil stepsisters in Cinderella, the U.S. has dominated the limelight for many years. Increased scrutiny of our sizeable feet (“deficit”) has foreigners wary of our debt and uncertain of our merit to wear the glass slippers or “AAA rating.” This has afforded international stocks their “Cinderella moment” or perhaps a case of the Tortoise and the Hare, aided by a falling dollar as they continue to outperform US equity markets by 11.2% year to date.
Emerging market equities had an especially strong quarter (+10.6%), led by Chinese equities (+20.7%). Despite signs of economic deceleration, investor sentiment was lifted by potential government intervention to address overcapacity in the Chinese economy, easing in trade tensions with the U.S., and progress on AI and chip technology. Even Japan got an invitation to the “ball” after decades of stagnation.
Closing Thoughts – Happily Ever After?
Markets, like fairy tales, rarely offer a neat conclusion. Instead, they unfold chapter by chapter and as we move into the final quarter of 2025, we continue to navigate a dense forest of mixed signals including declining inflation, cautious corporate earnings and geopolitical tensions. Our role as stewards of your capital is to separate fantasy from fundamentals, helping to ensure that we navigate both the enchanted forests and the dark woods with prudence and clarity. Like Hansel and Gretel with their breadcrumb trail, discipline and careful allocation remain essential to avoid losing the way. At Ulrich, we stand by with axe and lantern to light the way and keep the big bad wolves at bay.
Warm regards,
John P. Ulrich, CFP® Whitney E. Solcher, CFA®
President Chief Investment Officer
Equity Markets
U.S. equities extended gains for the year and advanced to record levels as investors looked through policy uncertainty and focused on earnings and Fed easing prospects. The S&P 500 rose 8.1% (+14.8% YTD), led by Information Technology (+13.2%) and Communication Services (+12.0%) on continued enthusiasm for the AI-trade and digital platforms. The Magnificent Seven stocks were propelled further as they reached approximately 35% of the S&P 500’s market capitalization. Consumer Discretionary (+9.5%) also posted strong gains, while Consumer Staples (–2.4%) was the weakest sector reflecting a rotation into cyclical names as well as a weaker outlook stemming from increased margin pressures on consumer staples companies. Small caps (Russell 2000: +12.4%) outperformed large caps (Russell 1000: +8.0%), and growth stocks (Russell 3000 Growth: +10.4%) continued to lead value (+5.6%).
Market valuations grew further into focus as the Schiller P/E ratio for the S&P 500 ended the quarter at roughly 40x, reaching a level that has only been exceeded by the rally prior to the Dot-Com Bubble. Similarly, the market-cap-to-GDP Ratio, also known as the Buffett Indicator, surged past 200% in September, signaling that market gains have far outpaced U.S. economic growth.
Non-U.S. equities extended their year-to-date lead over U.S. markets as the MSCI ACWI ex-USA Index rose 6.9% (+26.0% YTD). The currency tailwind abated during the quarter as the U.S. dollar stabilized (DXY: +0.9%) after a tumultuous 1H25 (-10%). Developed market equities (MSCI World ex-USA: +7.3%) advanced as the ECB paused its easing cycle and the BOJ maintained its accommodative stance. Financials (+8.6%) were the strongest performers as European banks posted solid 2Q earnings, while Health Care stocks (+0.7%) faced pressure from newly announced U.S. tariffs on imported pharmaceuticals. Japanese equities (+8.0%) rallied, led by autos and semiconductors, as a U.S.-Japan trade deal was reached in July and finalized in September, helping boost investor sentiment on exporters.
Emerging market equities delivered strong gains (MSCI EM: +10.6%), led by Chinese equities (+20.7%). Despite signs of economic deceleration, investor sentiment was lifted by potential government intervention to address overcapacity in the Chinese economy, easing in trade tensions with the U.S., and progress on AI and chip technology. South Korean (+12.7%) and Taiwanese equities (+14.3%) also surged ahead in 3Q, benefiting from strong semiconductor demand.
Fixed Income Markets
Fixed income markets posted broad-based gains in 3Q25. The U.S. Treasury yield curve steepened modestly as the front end fell more sharply in anticipation of Fed cuts, while the long end shifted marginally lower but remained elevated. The Bloomberg US Aggregate Bond Index advanced 2.0% (+6.1% YTD) as yields declined. Investment grade corporate bonds outperformed securitized (MBS, CMBS, ABS) on a like-duration basis as corporate option-adjusted spreads continued tightening and reached levels last seen in the pre-GFC period. Within leveraged finance, spreads also continued to grind tighter as the Bloomberg US High Yield Index rose 2.5% and the Morningstar LSTA Leveraged Loan Index advanced 1.8%, supported by strong CLO demand. The Bloomberg TIPS Index gained 2.1% (+6.9% YTD) as the 10-year breakeven increased and implied 10-year real yield declined. Municipals generated solid returns (Bloomberg Muni: +3.0%), aided by favorable technicals and strong demand.
Global bonds delivered mixed performance as 10-year bond yields rose across most G7 nations and U.S. dollar strength was a headwind to unhedged investors. The Bloomberg Global Aggregate Index (USD Hedged) gained 1.2%, while unhedged returns were nearly flat (Bloomberg Global Agg: +0.5%). Emerging market debt outpaced developed market peers, with the hard-currency (JPM EMBI Global Diversified: +4.8%) and local-currency (JPM GBI-EM Global Diversified: +2.0%) indices both advancing.
Alternatives
Liquid alternatives posted positive returns in 3Q25, with strength concentrated in precious metals. The S&P GSCI rose 4.1%, though performance across underlying sectors diverged. Precious metals surged (S&P GSCI Precious Metals: +17.4%), with gold up roughly 45% YTD as elevated uncertainty bolstered its appeal as a safe-haven. In contrast, energy prices remained under pressure as oil markets faced ample supply. Global natural resource equities advanced (S&P Global Natural Resource Equities: +9.4%), lifted by strong gains in metals and agriculture that offset weakness in energy. REITs also posted gains (FTSE Nariet: +4.8%), supported by a modest decline in long-term yields. Source: Callan