Investment Commentary – September 2, 2025

Executive Summary

The S&P 500 closed out August near an all-time high, defying consensus commentary that was pessimistic. Coming into the month, many investors were bracing for seasonal weakness, the onset of new tariffs, elevated valuations, compressed credit spreads, and commentary related to the Federal Reserve’s independence.

What drove the resilience? U.S. economic growth remained firm, Q2 earnings fundamentals and guidance are encouraging, and expectations by many have been rising that the Fed will cut rates at its next meeting. These tailwinds may have helped markets climb the “wall of worry.”

As we head into September and October, the Investment Office believes the same concerns will be repeated, including seasonality, policy risks, and valuations. However, the Investment Office believes the macro and fundamentals are slowing but not recessionary.

Equities

The S&P 500 returned -0.1% last week. While economic data remained resilient with consumer spending rising, data for the Fed’s preferred inflation gauge – the Personal Consumption Expenditures (PCE) – showed that inflation remains a concern. Earnings from technology bellwether Nvidia underwhelmed, and traders began to reposition portfolios, bracing for the year’s historically most difficult month ahead. Energy (+2.5%) and financials (+0.8%) led the S&P 500; utilities (-2.0%) and industrials (-0.8%) were the laggards. EAFE markets returned -0.8% with all major geographies headed lower, while EM markets returned -0.8% with India (-3.9%) dragging on positive returns in Brazil (+2.6%) and Korea (+0.4%).

From a valuation perspective, the S&P 500, the NASDAQ, and EM trade at or above +1 standard deviation based on historical forward P/E ratios, with the S&P 500 at +1.9, the NASDAQ at +1.0, and EM at +1.0. For the next 12 months, EPS growth for S&P 500 is expected to be 8.2% (vs. 6.9% annualized over the last 20 years). For the next 12 months, EPS growth for NASDAQ is expected to be 13.7% (vs. 10.7% annualized over the last 20 years). Equities across markets caps in the U.S., and in non-U.S. developed and emerging markets, trade at or above their 20-year averages based on forward P/E ratios.

Fixed Income

Investment grade fixed income sectors had mixed returns with the yield curve steepening. Municipals returned +0.2%, U.S. AGG returned +0.2% and US IG returned -0.1% as spreads widened. HY bonds returned +0.5% while bank loans returned +0.2%. EM debt returns were flat as the U.S. dollar rose 0.1%.

Rates

Rates fell at the short end and rose at the long end. The recession-watch 3M-10Y spread widened 2bps and remains positive at +8. The 2Y-10Y spread widened 5bps to +61. Rates fell in other developed markets other than in Japan; the BTP-Bund spread is at 0.86%. 5-year breakeven inflation expectations rose 1bps to 2.52% (vs. low of 1.88% on Sept 10); 10-year breakeven inflation expectations fell 1bp to 2.41% (vs. recent low of 2.03% on Sept 10); the 10Y real yield fell 2bps to 1.82%. The market now expects two cuts in 2025 vs the Fed’s guidance of two cuts. At year-end 2025, the market expects the Fed Funds rate to be 3.78% vs. the Fed’s guidance of 3.75%-4.00%.

Currencies/Commodities

The dollar index rose 0.1%. The commodities complex rose 0.9% as energy prices rose 0.6% for the week. Brent prices rose 0.6% to $68/bbl. U.S. natural gas prices rose 11.1% while European gas fell 5.8%.

Market monitors

Volatility rose slightly for equities and bonds (VIX = 15, MOVE = 79); the 10-year average for each is VIX=19, MOVE = 80. Market sentiment (at midweek) rose from -14 to -5, but still reflects weak consumer sentiment.