Our view🦈 for 2025
Paid subscriber analysis
[This is the third text in the 2025 market overview series. The first one presented the bull 🐂 view. The second one presented the bear 🐻 view.]
Well, that was an exciting week! Leave it to the FOMC to change everything: the narrative, the sentiment, the expectations.
On Fed day we got SPX -3%, NDX -3.6%, VIX +73%! 🩸🩸🩸Bloodbath. And panic. And then an almost complete V reversal on Friday ✅ (after a weaker PCE inflation report). Powerful.
If you were following this newsletter you had plenty of opportunities to enter shorts on Wednesday. Immediately after the announcement given that this was our conclusion from the day before:
"If they raise rates to 3.6 (or worse) and the long run to 3.1, with a more hawkish Powell presser (inflation battle still not over, rate cuts much slower ahead) => expect a sell-off in equities. Anything even more hawkish is an aggressive sell."
It was indeed more hawkish (rates to 3.9), Powell talked about “uncertainty around inflation” and the market sold off aggressively.
Or even at 21:05 when we published the newsletter (to paid subscribers) saying: "this is a signal to short the market in the short run."
Weekly SPY ATM puts were up 1000% if you bought at the announcement, 200-300% if after/during the presser. Really really good risk-to-reward there.
At ORCA we usually wait for the presser to put positions and were up 4.5% on the day, as our put options more than delivered. We closed the week, however, at 6.8%, after a stellar reversal day yesterday.
We are ending the year at an all-time high of 64% since inception and 38% year-to-date.
But more on this next time…
Today it’s all about the outlook for 2025.
I was going to write about a correction probably happening in early Feb, in response to the January FOMC meeting where the Fed will most likely be more hawkish and signal uncertainty regarding inflation as the new Trump presidency starts announcing tariffs, etc. But that scenario wrote itself for me this week.
It was very similar to this summer where expectations were that a correction is likely in September, and then it happened in early August, again following the FOMC meeting on July 31st. It took about a week to unravel and then it sold aggressively on Aug 5th following news from Japan (the carry trade).
What can we expect after this correction? Is it even a correction?
Our view: inflation part 2, corrections, but still bullish
Several important points that determine our view:
FOMC pivot
One thing that the bear🐻 argument is right about for next year is the focus on inflation. We saw that clearly this week. FOMC increased its PCE inflation target and signaled more pauses and less cuts in light of inflation uncertainty. This is a big pivot from the Fed, especially if you recall Powell’s Jackson Hole “the time has come to cut interest rates” speech in August, where he declared victory over inflation and all but announced a soft landing. That summer sentiment was very much in line of how Powell ended 2023, with two meetings (Nov and Dec) signaling rate cuts and adding much more fuel to the 2024 rally.
Only four months later we get a complete reversal of this year long-policy. The Fed is very hawkish, and markets started to aggressively price in this pivot, which is putting a huge dent in the main bullish🐂 argument for next year - that Fed rate cuts will be the main market driver. They won’t.
The reality is that the bond markets have faded the Fed, and have succeeded in pushing them to become more hawkish. After a dovish pivot in Nov and Dec 2023, with investors pricing in 6 rate cuts, the bond markets first started to move against this view around February 2024, following some bad CPI and PPI reports in Feb and Mar, but then after May they started to align once with rate cut expectations. All of this was reversed towards the end of the year as the “Trump trade” was getting priced in. And the Fed had to react. It reacted sooner than expected, but the reaction was clearly necessary.
Trump vs Fed
The second main bullish argument - Trump administration tax cuts, deregulation and Reaganomics 2.0 - is still in place, but it too is running at odds against the Fed’s pivot. Trump’s policies are pro-growth but they are also inflationary - especially the controversial ones; tariffs and deportations. Tariffs directly increase foreign goods prices and put pressure on domestic complementary goods (not to mention higher prices of intermediary foreign imports translating directly on to the end products), while deportations of immigrant labor increase nominal wages in sectors like agriculture or construction. Also inflationary pressure. Recall that nominal wages are still growing between 3% and 4.7%.
We mentioned all this in the bear view, but the bottom line is that we will not get complementary monetary and fiscal policies next year. The Fed made that abundantly clear.
Our view for next year is that this interplay between the Trump administration and the Fed will be the key thing to watch for markets. Very difficult to discern the final impact this will have on markets, but I do expect a lot more volatility next year. It most likely will not be a year of directional markets (bullish all the way up, or pure bearish all the way down), but more sideways trading in blocks of a few months.
Think also about the political pressures the Trump administration might put on the Fed if they do not align with their own goals. This too is bad for markets. I doubt Trump will go so far, as his main KPI is always the stock market, but the risk is clearly there.
Inflation is once again the main focus of interest. For now.