Predicting the future is tricky but Greg Smith looks into the crystal ball to figure out what this year's markets themes will be.
THREE KEY FACTS
With a new year already underway, it is time again to dust off the crystal ball and engage in the well-established tradition of making big-picture predictions on developments and factors that will shape markets and investment portfolios in the year ahead.
Reflecting on 2024, global markets performed strongly, led by the US indices, and particularly the US super-cap technology sector. The blue-sky potential of AI was once again a big driver of sentiment. The S&P500 surged 23% while the Nasdaq soared 29%. The Dow Jones posted a gain of 13% and the MSCI World Index rose 18%.
There were periods of volatility, but the bulls were largely in charge throughout the year, as inflationary pressures eased, central banks entered their rate-cutting cycles, and the world economy appeared to be landing softly. The Kiwi sharemarket found increasing favour as the RBNZ’s own easing cycle got under way, with the NZX50 rising 11% for its best annual performance since 2020.
Looking back on our top 10 predictions from a year ago, we pleasingly had more hits than misses. Donald Trump won the US election, and while the Fed only put through three rate cuts (we predicted four), the world’s largest central bank displayed a clear easing bias as inflation moderated. The RBNZ did cut rates earlier than most others anticipated, but discretionary spending remained under sustained pressure. A long-term deal was wrapped up at Tiwai, and uranium gained further prominence as part of the global energy transition. The Chinese economy also arguably confounded the bears with further stimulus forthcoming, while the Kiwi housing market had a positive year, albeit only just.
We were off the mark though on the view that the “Magnificent 7″ would hit a speed bump, although Nvidia’s entrance to the Dow did see the AI darling lose a little shine. Australia’s economy perhaps did not do as well as we thought it might, although this didn’t hold back the country’s stock market which made record highs in December.
What does 2025 have in store? Below is a list of how the Top Ten themes may play out.
1. Markets grind higher in 2025 but are punctuated by higher volatility as investors digest the implementation of protectionist policies, and changes to central bank positioning.
The US economy and stock market has another strong year, despite intermittent concerns around ballooning US debt, trade frictions, inflationary pressures, and geopolitics. Investor optimism continues to be propelled by the pro-growth policies of the Trump Administration. Rising productivity, and AI advancements, also continue to boost market morale.
However, the “double edged” nature of protectionist politics (which prove a “moving feast”) also becomes increasingly evident, including the boost to inflation. Tariffs deliver another cost-of-living shock to Americans.
The implementation of substantial duties on imports from China also provides a stern test of Trump’s relationship with many leaders, including that with Elon Musk. Despite this, the “bromance” remains strong. This helps drive efficiencies in US government and the commercialisation of self-driving technologies.
The last mile of inflation proves a tad “sticky”, causing the Fed and many other central banks to deliver less in the way of rate cuts than were expected. Markets as a result see more volatility over the course of the year. Geopolitical risks remain highly relevant, even with some progress towards peace in Ukraine. Tensions remain high in the Middle East and in Korea.
2. Despite the uptick in inflation, less dovish tendencies by the Fed, and increasing trade frictions, the global economy still lands softly.
While there is the prospect of a “no landing” scenario in 2025, where growth remains strong, but inflation is also persistent, the US economy, and many others, do indeed land relatively softly. Unemployment remains contained but does pick up, in part due to AI-driven productivity improvements. Interest rates don’t come down as much as expected in the US, with the Fed putting through just two rate cuts. This helps the world’s largest economy to glide down gently.
Trade tensions pick up, but the global economy is also helped by China which does well on the back of further stimulus measures, and as the property market starts to display green shoots. Europe holds together better than feared with the European Central Bank and the Bank of England maintaining an easing bias given economic challenges. A change of government in Germany boosts the growth prospects of the largest economy on the Continent.
3. Super-cap US tech stocks remain in demand, but there is an increasing rotation away from some of the high-growth names towards older economy companies as interest rates fall less than expected. US small caps do well.
Super-cap technology stocks had a huge run last year, arguably leaving scope for material pullbacks on any disappointments or thematic headwinds. AI remains a powerful story, but a high bar of investor expectation is effectively made even higher because of interest rates in the US not coming down as far as investors were expecting, thrusting more attention on near-term earnings.
As a result, there is a rotation towards older-economy and smaller capitalisation stocks. The small-cap Russell 2000 has a very strong year.
4. Interest rates continue to fall in New Zealand as the Reserve Bank lowers the neutral rate band for the OCR, amidst a stuttering economy and as trade frictions deliver deflationary outcomes with a flood of cheaper goods from China.
As the September quarter GDP numbers showed, the New Zealand economy is not in a great place, enduring the worst recession (the Covid slump aside) in over 30 years. The Reserve Bank was very aggressive in hiking interest rates, and the economy has been paying the price. Officials increasingly recognise their primary mandate (price stability) and look to bring rates down more quickly than expected, and follow a pattern that has been seen in several other easing cycles.
The RBNZ cuts rates 0.50% in February but officials resist the temptation to put through any “jumbo” (0.75% or greater) reductions, despite the economic justification as we see it. The RBNZ though does lower its neutral rate band (the rate at which monetary policy is neither expansionary nor contractionary), which ultimately sees the cash rate going towards 3% by the end of 2025. Deflationary pressures, due to US/Sino trade frictions, results in China sending cheaper product to New Zealand, providing further downward pressure on prices here. Our economy starts to feel the benefit of the rate-cutting cycle in earnest by the middle of the year.
5. Dividend stocks do well, helping the Kiwi market to perform strongly amid falling deposit rates. The retail sector recovers but house price gains are modest due to an increase in supply.
The Kiwi market had a strong second half of 2024, but sentiment was kept in check due to lower interest rates taking time to transmit their way through the economy, and due to the relative appeal of still elevated fixed income rates. This all changes in 2025 as the RBNZ cuts rate further throughout the year. Cash in the bank becomes less appealing given the high dividend appeal of the Kiwi stock market, and as the economy starts to turn around. A falling currency is also good news for our exporters.
The retail sector also benefits as consumers become a bit less cash-strapped, as around 70% of existing home loans are repriced in the first nine months of the year. The housing market though does not return to its former glories, with only a modest level of house-price growth due to a significant increase in the number of houses for sale. Falling levels of net migration are also a headwind to the housing market.
6.M&A activity steps up globally, with New Zealand also a beneficiary.
A soft economic landing for the global economy, along with falling interest rates (albeit these do not fall as much as expected in the US), provide fertile ground for rising levels of corporate activity amid a positive economic outlook as debt becomes cheaper. Merger and acquisition activity intensifies across the globe.
A further tailwind provided to M&A action in New Zealand is a lower currency, as high-quality Kiwi companies are effectively “on sale” to overseas predators. One large name departs the NZX.
7.China delivers on more stimulus, which proves positive for the domestic growth story there, even as US trade tensions escalate.
China remains a key part of the global economic growth story, and is particularly important to New Zealand, being our largest customer. Last year was dominated by the questions of whether and when officials would deliver on stimulus to reinvigorate their economy. They are now under way and these efforts appear to be bearing fruit, but officials will pull the stimulus levers even further.
Domestic demand has been picking up in China, and officials will want to keep the momentum going, especially given increasing frictions with the US. Their property market also starts to improve. China meets its 5% annual GDP growth target, which is positive for New Zealand.
8. Major elections in Canada and Germany usher in right-wing governments and reforms as their economies stutter.
2025 sees major elections in Canada and Germany which bring right-wing governments to power, each promising significant reforms amid economic challenges and trade frictions. In Canada, the Conservative Party claims victory with voters looking for a change, amid a sluggish economy, exacerbated by US tariffs on exporters. Faced with similar issues, German voters also look for a change of direction, with the CDU/CSU alliance gaining power. The new governments in both countries put through wide-ranging reforms to get their economies back on track.
9. AI becomes more immersed in our daily lives and leads to some powerful advances in biotech.
In 2025, AI will become much more integrated into our daily lives. AI agents will become commonplace and help to revolutionise the workplace, driving productivity gains. There will be significant advancements in various fields, including biotechnology. AI’s capabilities in data analysis and pattern recognition will revolutionise drug discovery, personalised medicine, and diagnostics, leading to more effective and tailored treatments. Progress in genetic engineering goes hand in hand with increasing ethical dilemmas. Amidst significant advancements in this field, the demand for anti-ageing therapies will supplant weight-loss drugs as the next big health craze. This will drive a rethink about what being healthy, growing old, and being human means. The tail-end of the year also sees the emergence of machines capable of thinking like people.
However, as AI’s influence grows, so do the challenges in cybersecurity. AI will be increasingly used as a defence mechanism, enhancing threat detection and response times. Yet, this same technology will also be leveraged by cybercriminals to create more sophisticated and adaptive attacks.
10. The space race heats up. Starlink becomes a major disruptor to the business models of broadband providers, satellite TV and telephony businesses.
In 2025, the space race will intensify, driven by Starlink’s rapid advancements. The company developed by SpaceX is set to become a major disruptor in the telecommunications industry, with its expanding satellite constellation offering high-speed, low-latency internet globally. This will challenge traditional broadband providers, particularly in remote and under-served areas. Starlink becomes a major streaming player. Aided by AI, progress toward the urbanisation and commercialisation of outer space accelerates. Asteroid mining will be a concept that takes a step closer to reality.
'Given challenges, Auckland housing market came through the year in good shape.'