by Jurrien Timmer, Director of Global Macro for Fidelity Management & Research Company
Breaking Eggs to Make an Omelet
Events continue to unfold at a breakneck speed around the world, as the uprooting of the geopolitical and financial status quo remains relentless at only four weeks into the new administration. It’s difficult to find a secure footing, as the ground keeps shifting underneath our feet.
Yet the markets have been remarkably calm. The equity risk premium is in the bottom decile, the term premium remains negligible, and credit spreads and the VIX remain subdued. Is this because in its collective thought it believes that (in the words of the great Joseph Campbell) you can’t make an omelet without breaking some eggs?
The eggs are certainly being broken, and perhaps good things will ultimately emerge in the form of greater productivity and fiscal discipline. Or is the market claiming ignorance, assuming that the tariffs are just a game of chicken, when in fact the world is on the cusp of a stagflationary trade war?
There are so many questions, with not much of a playbook to rely on. Will Europe now embark on a massive fiscal expansion as it ramps its defense spending from 2% of GDP up to 5%? Will it finally reinvent itself after so many years of inertia? How will this be paid for? Will the White House force trading partners to buy 100 year bonds, as my friend Jim Bianco posits? Will DOGE cut only the wasteful spending, or both the good and the bad? Will US real yields continue to rise, forcing equity valuations to compete, or will fiscal discipline keep term premia at bay? Will the dollar rise on the back of higher tariffs, or decline as happened in 2017 during the first year of Trump 45?
The world seems to be on an unstainable fiscal path, so doing something disruptive might be better than doing nothing. My sense is that the market, priced for success, has accepted that it’s on a rollercoaster ride, hoping that we don’t go off the rails.
We are locked in, eggs broken, hoping that a tasty omelet awaits instead of messy scrambled eggs with pieces of shell in them.
Holding Pattern
While the news flow is moving at lightning speed, the US stock market is stuck in a holding period. The Mag 7 has not made a new high since December 14th, and the rest of the market remains stuck as well.
Buy the Rumor, Wait for the News
Everyone is just waiting, it seems. You don’t want to sell; in case the rollercoaster arrives safely. But who is left to buy following the strong inflows since the election? The equal-weighted S&P 500 index remains below its highs set on November 29th, and only 53% of stocks are above their 50-day moving average. We are in a “buy the rumor, wait for the news” mode.
Global Broadening
While the US market remains stuck, attention has shifted to international markets, namely Europe and China. The MSCI Europe index (below) has been on a rocket launch the past few weeks, with expectations now building that Europe has no choice but to fend for itself economically and geopolitically. That means a lot more spending on defense and supply chains in general. How this gets paid for remains to be seen, but investors are pricing in a more proactive industrial policy. Germany’s right-leaning election outcome today could add to that momentum.
So far, global markets are waking up without the US going down. My sense (so far incorrectly) has been that this scenario would only happen if the Mag 7 breaks, creating only the alpha but not the beta from ex-US. I am happy to be proven wrong on this. Perhaps the sum is more than zero.
China
China has also woken up as the government now seems to be embracing the private sector again. The MSCI China index is now back to the levels seen last year when talk of stimulus first began, and the forward P/E ratio has climbed 4 points from its 2024 low.
Valuation
In my view most global markets are fairly priced, given the dynamics of earnings growth and payouts. The US is expensive but deservedly so. But when valuations are as dispersed as they are now, any cyclical trades can be greatly amplified. Whether this will continue will in my view come down to earnings estimates and the dollar.
Global Earnings
Indeed, we can see in recent weeks that the ex-US estimates have been rising at the same time that US earnings growth estimates have peaked on a rate-of-change basis. Whether this is merely a function of a weaker dollar or something more endogenous is not clear to me yet, but my guess is that it’s endogenous.
Taking a look at the earnings squiggles, we can see the small uptick in EAFE estimates.
Those small pivots are not yet visible for EM equities, which is a hint that the improvements in Europe and EAFE are indeed endogenous and not just dollar-related.
US Earnings
Meanwhile, the US earnings cycle remains in place, with Q4 earnings growing 13% year-over-year.
But with 2025 estimates coming down, it looks like the peak is in for the earnings growth cycle.
The USD
Clearly part of the newfound momentum for non-US stocks is coming from a weakening dollar. History only rhymes, of course, but it’s interesting to see the parallel between the 2014-2018 period and the 2022-2025 period.
Following the election in 2016, the dollar ramped higher, only to fall throughout most of 2017. The same thing has so far happened since the 2024 election. The dollar peaked on January 8, 2017, and so far on January 17, 2025.
Bonds
One of the great unknowns for now is what will happen to the term premium on US bonds. Will DOGE cut waste and reduce government spending to more sustainable levels, while global investors swap their 10-year notes for century bonds? If so, yields will likely do what the president wants, which is fall.
But with the bulk of spending dictated by the secular forces of aging demographics, this remains one part of the rollercoaster ride where we are left waiting and hoping for the best. For now, we watch the weekly unemployment claims to see how many federal jobs are being cut. So far it doesn’t seem to be many.
This information is provided for educational purposes only and is not a recommendation or an offer or solicitation to buy or sell any security or for any investment advisory service. The views expressed are as of the date indicated, based on the information available at that time, and may change based on market or other conditions. Opinions discussed are those of the individual contributor, are subject to change, and do not necessarily represent the views of Fidelity. Fidelity does not assume any duty to update any of the information.
1188536.5.0
Copyright © Fidelity Management & Research Company
