Oct 1, 2025

Second-Half Comeback? Positioning Portfolios After a Resilient Q3

“You are what your record says you are!” Coach Bill Parcells had it right. Earlier this year, the market looked like a losing team, down double digits during the tariff-driven drawdown. But after some halftime adjustments, the scoreboard now shows a 14.8% gain year-to-date. This isn’t a 28–3 Patriots-Falcons Super Bowl comeback, but the score is the score.

Market resilience has carried the season - balancing solid economic growth against heightened policy and geopolitical risks. The game isn’t over yet.

Market Recap

U.S. Equities (S&P 500)

Q3: +8.2%
YTD: +14.8%
Resilient earnings in large-cap technology and AI-related names continue to lead performance, despite valuations elevating.

International Equities (MSCI EAFE)

Q3: +4.5%
YTD: +25.6%
Earnings momentum in Europe and Japan weakened relative to the U.S., slowing the developed-market relative outperformance.

Fixed Income (Bloomberg U.S. Aggregate Bond Index)

Q3: +2.5%
YTD: +6.2%
Rates eased slightly late in the quarter, allowing core bonds to stabilize. Yields remain attractive in investment grade credit.

Alternatives / Commodities (Gold)

Q3: +16.6%
YTD: +46.8%
Gold continued to outperform as geopolitical tensions remained and investors sought portfolio hedges against inflation and policy changes.

Key Themes We’re Watching

It’s a common trap to base our feelings on the economy by the recent performance of the stock market. The problem is stock market values move ahead the economy. By the time it’s a recession, stocks have typically already gone down and may have even bottomed. By the time the economy is in a full-on growth cycle, stock prices have already ripped. It’s what makes predicting short term stock market moves incredibly difficult.

Even better, declines in stocks do not indicate imminent recession, with earlier this year's very recent example of the 20% decline in stocks from the introduction of tariffs. You have to have a long-term strategic portfolio allocation and a game plan for allowable tilts and floats for how you will respond when markets inevitably go down.

While it feels great for markets to establish new all-time highs, it is very normal to feel a little unsettled along the way. Our view is that future U.S. recessions, and the U.S. market, will have shorter and shallower bear markets than historically. The U.S. economy was primarily a manufacturing (Cyclical) economy for much of the 1900’s, beginning to evolve into a services-based economy in the 1970's, to a full blown services economy by the turn of the century.

A services-based economy is not cyclical like a manufacturing economy. Only twice in 75 years has the services economy gone into a recession – the COVID Pandemic and the Global Financial Crisis. Outside of incredible systemic shocks, global crises, and major policy errors, people don’t stop spending on services like health care, education, or their cell phone. It’s stable and predictable. Pullbacks and bear markets will still happen, but there is a case to be made that they may be shallower and shorter than historically.

Ok great, but what is helpful in determining forward looking returns? Market information is noisy. In the long-term, Valuations can be very helpful. In the short-term, Earnings Momentum is a greater predictor of short term directions.

Valuation measures like P/E ratios, CAPE, or price-to-book compare current prices to fundamentals. These measures are helpful for explaining long-term expected returns (7–10 years+). Academic research generally agrees that valuation can explain approximately 40-60% of the long term return. However, valuation metrics are fairly poor for assessing shorter term directions. Markets can stay “expensive” or “cheap” for years without reverting. Japan is the textbook example. The Nikkei 225 (Japanese stock market index) peaked on December 29, 1989. It bottomed in 2009 down more than 80%. It wasn’t until 34 years later in February 2024 that the market fully recovered to its 1989 high.

Earnings momentum is direction and strength of earnings growth and revisions (analyst upgrades/downgrades). Predicting short term moves in the market is incredibly difficult, but earnings momentum is one of the strongest indicators of short term market directions. However, academic research generally asserts that earnings momentum only explains 15-20% of short term market moves. Momentum can be helpful in determining short term positioning or assessing the overall level of risk in markets, but should be used as a small positioning tool not a means to dramatically change course.

Both earnings momentum and valuation should be used together: momentum for long term strategic positioning, valuation for risk-related adjustments.

Mortgage rates declining could be incredibly bullish for the economy. The housing market is frozen. Not only could declining rates restart home sales, but it could give a large number of mortgage holders the opportunity to refinance and increase their spending.

Mortgage rates have declined from recent peaks earlier in 2025 down to 6.25–6.40% more recently. Despite the decline, they are still high vs historic lows well above the post-pandemic lows of 2.5%-3%. Increased rates and higher prices are without question a drag on affordability.

Should rates begin to drop further, refinance interest could increase. There are a large number of homeowners that have locked in rates at or above the current levels in the last two years.

A reminder from just a year ago that mortgage rates are set by the market, not by the Federal Reserve. Rate movements are tied to external influences: Treasury yields, inflation data, expectations of Fed policy, and global risks are all major inputs. The 10 year treasury yield is an excellent proxy for determining the direction of mortgage rates.

Should the Federal Reserve be embarking on an easing cycle of the Fed Funds rate, as cash yields approach the rate of inflation, people may get FOMO and start to move from that good-feeling money market to other assets. But, where? If the Fed gets down to a 3% Fed Funds rate, that may be a psychological point where money market funds get spent, put towards paying down debt, or invested into other capital markets. All positive for markets in different ways, so I’m not sure it matters where it goes.

Should rates begin to drop further, refinance interest could increase. There are a large number of homeowners that have locked in rates at or above the current levels in the last two years.

Secular Opportunities

Artificial Intelligence - Artificial Intelligence is a powerful secular theme because it’s not just about consumer apps — it’s about the “picks and shovels” (compute power, cloud infrastructure, and software) that enable productivity gains across every industry, driving a multi-decade adoption cycle. We’re increasing exposure to AI because the earnings momentum remains strongest in the enablers — compute, cloud, and software — and we believe this multi-decade adoption cycle will continue to drive relative outperformance, especially as markets reward durable growth.

Aerospace & Infrastructure – Given the current administration’s push to lessen regulatory red tape, expand aviation funding, and prioritize aerospace and defense modernization, we believe this environment improves the tailwinds in these sectors. These trends are less cyclical, offering portfolio both growth potential and additional equity resilience in a slowing economy.

Key Takeaways – Portfolio Positioning

In Q1, we added gold and liquid alternatives for diversification. During Q2, we increased the quality and size tilt within equities, shifted back toward U.S. markets from international profits, and introduced AI as a thematic position. We also maintained an overweight to value-oriented developed international stocks, added digital assets for the most aggressive portfolios, and introduced private equity allocations for clients with the lowest liquidity needs and longest time horizons.

Now, we are adding 1% to equities, moving to a 2% overweight to nudge market risk slightly higher on a friendlier policy backdrop while keeping core shock absorbers in place. Within equities, we are leaning into U.S. earnings strength by preferring growth over value domestically and value over growth abroad. We are also increasing exposure to the “picks and shovels” of AI — compute, cloud, and software companies powering the next industrial revolution — and initiating a thematic position in aerospace and defense to capture opportunities from multi-year modernization cycles fueled by government spending.

Asset Class Commentary

Equities remain the core growth driver of portfolios. Within equities, we continue to favor large-cap growth and quality stocks over small-caps. Historically, large-caps and mega-caps outperform during Fed rate-cutting cycles, even though small-caps may benefit on the margin. We are trimming international developed exposure given softening earnings momentum in Europe and rebalancing proceeds toward high-quality U.S. equities.

Fixed Income, particularly investment-grade bonds continues to offer compelling real yields of 3 to 3.5% - levels that we view as attractive relative to history. We are extending duration modestly by adding Treasuries while remaining defensive overall. Our objective is to maintain reliable income while preserving diversification benefits.

Alternative assets remain important hedges against geopolitical shocks and policy uncertainty. Gold and liquid alternative strategies, specifically equity market neutral and systematic multi-strategy, are designed to provide stability and absolute risk-adjusted returns in choppier markets.

Private Markets remain a long-term growth driver, but we remain cautious on Private Credit given elevated rates and tighter lending conditions. Opportunities are selective, and new commitments should be made with patience and long time horizons with Private Equity being the preferred asset class.

Digital Assets, while not a strategic allocation for most portfolios, we continue to acknowledge Bitcoin’s resilience and their role for more aggressive investors seeking diversification against geopolitical and trade disruptions, as well as the impact of Ethereum in the broader blockchain ecosystem, smart contracts, decentralized finance (DeFi), and tokenization.

Cash & Cash Equivalents remain a suitable vehicle for short-term needs and emergency reserves, with short-term rates expected to stay stable to modestly lower. However, excess cash should be redeployed into long-term investments where possible.

Looking Ahead

We continue to believe the U.S. economy is moving from expansion to slowdown, but slowly. Earnings quality, risk management, and diversification are the central pillars of our positioning today.

If you’d like to discuss how these views impact your portfolio specifically, please connect with us here.

Market resilience has carried the season - balancing solid economic growth against heightened policy and geopolitical risks. The game isn’t over yet.