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March 3, 2025 – Markets seemed to ignore the scene at the White House on Friday. As always, they focused on the outlook for earnings and interest rates. Zelensky’s unceremonious exit from the White House didn’t change any economic forecasts. For investors, Friday afternoon’s sharp rally was better theatre than the antics in Washington anyway. President Trump will have another opportunity to stir the pot tomorrow night when he delivers the State of the Union address. Tariffs will be on everyone’s mind this week. What actually gets implemented and what doesn’t will get market focus. What we have learned over the past six weeks is to react to actual actions, not to promises of future events. It will be an interesting week.

//  by Tower Bridge Advisors

Stocks rose sharply Friday afternoon soon after Ukraine President Zelensky was escorted out of the White House. The two were unrelated. The dustup in the Oval Office made for great theatre and gave fodder for all the Sunday talk shows but was unlikely to alter the ultimate course for settlement of Ukraine’s conflict with Russia. On the surface, Friday’s rally can be viewed in one of two ways. It could be a combination of relief rally and short covering, a one-day wonder that won’t alter the equity correction in place other than to diminish a short-term oversold condition in the market. Or it could signal an end to the very brief correction that has taken place over the past few weeks. We will have a better idea which answer is more accurate today. If a robust follow through takes place, the recent correction is probably over. If markets resume their decline today, Friday’s rally was nothing more than a relief from an oversold condition.

To get a better idea, let’s look at fundamentals through two lenses. One lens is to examine market rotation. Clearly, the Magnificent 7, who have dominated market trading for the past two years have stopped dominating since this past summer. Yes, a few like Meta Platforms# have continued to move higher. But names like Microsoft#, Tesla, and Nvidia# are down 10% or more from recent highs. Last week, Nvidia reported its results and they were quite good, especially measured in an absolute sense. Data center sales, the core of its growth, rose 16% sequentially and 93% year-over-year. While that may not have beaten everyone’s expectations, which have risen sequentially quarter to quarter as Nvidia keeps outperforming, it’s hardly reasonable to denigrate revenue growth of nearly 100%. To be fair, there are some who believe all the large capital spending being done by the Mag 7 and others, will come to a screeching halt in the not too far distant future. However, there are few signs from any of the large tech companies that they are about to reduce spending anytime soon.

Without getting too deep into the weeds and tech jargon, there is an evolution in artificial intelligence from simply gathering and sifting through massive amounts of data to give a quick answer, to a level of reasoning that can be an efficient replacement for tasks done by humans today. Thus, AI models go from training to post-training to inference to reasoning, each time improving outcomes, and ultimately outperforming what we can do. Remember Watson, the IBM computer that could compete against chess grandmasters? Today, humans would have no chance of winning. But AI is about more than chess games. Early on, when ChatGPT first was introduced, reporters had a field day feeding weird questions to generate weird answers allowing them to write articles denigrating AI. It wasn’t ready for prime time. Each new iteration of a large language model is not only more robust and more accurate, but each iteration requires multiple times as much computing power as the previous version. New generations of chips to support AI are introduced annually, sometimes within a 12-month period. Even when we get to models that can reason as well as humans, there will be movement to make them even more efficient, more accurate, and lower cost. The AI boom is barely in its second inning, not the ninth.

To be fair, not all those chasing the pot of gold will succeed. Much of today’s spending will be wasted. That’s no different than in the first decade of the 1900s when over 3,000 companies were competing to become leadership companies within an emerging auto industry. In the 1960s, there were the BUNCH companies (Burroughs, Univac, NCR, Control Data and Honeywell) seeking to compete against IBM in the mainframe world. All failed. In the 1980s, names like Kaypro, Commodore, and Atari among dozens of others wanted to be the personal computer of choice. At the start of this century, Google obliterated Yahoo, Lycos, Alta Vista and Ask Jeeves in the race for search dominance. But don’t confuse the carnage of war with any lack of forward progress. Indeed, it’s the pace of progress that kills the weak. There is no doubt in my mind that a decade from now many AI leadership companies will be names not even public today and some of the Mag 7 will end up being left behind just as Intel and Cisco today are shadows of their former selves.

But let me get back to the market overall. Nvidia’s earnings report was greeted negatively, a repeat of the prior quarter performance. Indeed, many professional traders quickly shorted the stock after its early earnings bounce expecting such a repeat. But as I noted just now, this wasn’t a bad report. At its low post-earnings, the stock was down 20% from its fall peak while earnings were substantially higher. I haven’t seen an analyst report post-earnings that lowered future earnings expectations for Nvidia. Maybe, therefore, the near-term correction is over.

I spend so much time talking about Nvidia because it was the king of the mountain for the Mag 7 for much of the past two years. Its fortunes are tied to all companies engaged in the AI revolution. Its chips are the building blocks for everyone. When looking back over the past year or so, if one simply looks at our economy from 30,000 feet it appears it has grown at close to 3% with inflation moderating. But just as we have experienced a bifurcated stock market with the Mag 7 and acolytes surging leaving the rest of the market behind, the economy has been behaving in similar fashion. The Mag 7 grew capital spending last year by 40%, the rest of the country by a bit under 3%.

An interesting way to look at the economy and the stock market is to compare earnings growth with the performance of the equal weighted S&P 500. Last year, while the headlines said the S&P 500 grew by close to 25%, the equal weighted index rose by 12%. Corporate profits increased by a shade under 13%. In 2023, the equal weighted index rose by 10%, profits by 13%. In 2022 the equal weighted index fell by 10%; profits fell by 11%. Pretty tightly correlated if you ask me. Predictions this year are for equal weighted stocks to increase earnings by 12-15%. So far, through two months, the index is up just shy of 3%.

As we know, earnings alone don’t determine stock prices. Changing interest rates matter. So does the volatility of everyday headlines. Lately, bond yields have moderated. I wish I could attach that to softer inflation numbers, but the best correlation is to softer economic data. Why the softness early this year? There is no one definitive answer but some may be attributed to companies pre-buying in anticipation of tariffs, some can be attributed to a harsher winter in 2025, and some can be attributed to uncertainty related to the flurry of Trump’s initiatives. The DOGE-related firings and steps to reduce regulation have yet to show up in any of the economic data.

One measure of volatility is the VIX index which measures option premiums, the thought being higher premiums imply greater risk. The index over the past year has fluctuated between 14 and 23 most of the time. On Friday morning it once again approached the top end of the range. All the noise about tariffs, firings, and discontinued programs has consumers nervous and business leaders unsure. When managements are unsure, they defer decisions, bad for the economy. The uncertainties are heightened by a pattern of decisions on day one being modified, or even canceled by day three.

There is little reason to expect the volatility in Washington to suddenly stop. What we don’t know yet is the impact. Net interest payments for the U.S. next year are estimated to rise by more than $200 billion. Social Security cost of living adjustments alone will add close to $40 billion. Medicare payments will add billions more. The new budget framework passed by the House suggests Medicaid cuts of close to $800 billion. That’s a pipe dream as are most Presidential budget outlines. They are wish lists rather than predictions. One of the reasons that number is inflated is that reconciliation, a procedure that will allow the Senate to pass an economic-related bill by simple majority, needs significant savings offsets to allow for an extension of Trump’s tax cuts plus additional cuts such as tax-free tips. So far DOGE has eliminated less than 20,000 jobs that annualized can save about $30 billion. Not all its proposed cuts will stick thanks to court challenges. Medicaid will be a big source of savings but the idea of massive cuts in services isn’t going to fly. Nor will states simply accept more of the burden of costs without a fight. $400 billion in serious savings would be a miracle.

By far the biggest part of the Federal budget where money could be saved is in defense. That sounds ludicrous given all the cries for more defense spending, but the whole process of defense procurement is a bureaucratic mess. It can take close to a decade from conception to first delivery for a new fighter jet. Any procurement that can pass muster in less than two years is rare. Yet Ukraine regularly can swap out sensors, etc. to upgrade its drone fleet every six weeks. In many ways, built from necessity, Ukraine has by far the best and most sophisticated military infrastructure in Europe, all built on the fly over the past three years. Tearing apart our antiquated and bureaucratic procurement system isn’t likely to happen quickly. But rather than simply cut and slash without any foresight of the impact of cuts, DOGE might be better served to deconstruct and reconstitute procurement systems not only in the Defense Department, but throughout the Federal bureaucracy.

Most likely that’s a pipe dream. What we are left with therefore, is more of the slashing and burning we have witnessed over the past six weeks. Clearly, the political world is being turned upside down. The economic impact will be less extreme but there will be collateral impact.

In the meantime, the stock market will do what it always does; react to earnings and interest rates. If I had to sum up the last few weeks in a sentence or two, I would say that the economic outlook is a bit more pessimistic than a few weeks ago and that has led to a modest moderation in long-term interest rates. The two balance out and, therefore, stocks are basically unchanged. The Mag 7 have gone through a correction that appears to be running its course. It might be worth noting that today Wal-Mart’s p/e on next year’s earnings forecast is higher than any of the Mag 7 companies except Tesla.

Today’s market action has short-term importance either by validating Friday’s move or not. Tomorrow evening Trump delivers his State of the Union Address. It will provide more fodder for the media than the market. Fact checkers will have a glorious time dissecting his hyperbole.

Today, Jessica Biel is 43. Julie Bowen turns 55. The inventor of the telephone, Alexander Graham Bell, was born on this date is Scotland in 1847. The telephone became our dominant form of communication until the advent of text messaging.

James M. Meyer, CFA 610-260-2220

Tower Bridge Advisors manages over $1.3 Billion for individuals, families and select institutions with $1 Million or more of investable assets. We build portfolios of individual securities customized for each client's specific goals and objectives. Contact Nick Filippo (610-260-2222, nfilippo@towerbridgeadvisors.com) to learn more or to set up a complimentary portfolio review.

# – This security is owned by the author of this report or accounts under his management at Tower Bridge Advisors.

Additional information on companies in this report is available on request. This report is not a complete analysis of every material fact representing company, industry or security mentioned herein. This firm or its officers, stockholders, employees and clients, in the normal course of business, may have or acquire a position including options, if any, in the securities mentioned. This communication shall not be deemed to constitute an offer, or solicitation on our part with respect to the sale or purchase of any securities. The information above has been obtained from sources believed reliable, but is not necessarily complete and is not guaranteed. This report is prepared for general information only. It does not have regard to the specific investment objectives, financial situation or the particular needs of any specific person who may receive this report. Investors should seek financial advice regarding the appropriateness of investing in any securities or investment strategies discussed in this report and should understand that statements regarding future prospects may not be realized. Opinions are subject to change without notice.

Filed Under: Market Commentary

Previous Post: « December 19, 2024 – The Federal Reserve lowered its key interest rate by a quarter percentage point yesterday, but signaled that only two more rate cuts may be coming in 2025 instead of the four cuts widely expected. Fed Chairman Powell said it is like “driving on a foggy night or walking into a dark room full of furniture: you slow down, you go less quickly.” That hawkish and more uncertain tone was not well received by markets. While the stock market is typically volatile on Fed decision days, the 10-year yield backed up to 4.5% and stocks dropped about 3% following the Fed’s remarks. Markets have been strongly positive this year, but a pause on this news provides a chance to focus on better valuations. Stock market futures are indicated positively this morning.
Next Post: March 6, 2025 – Escalating trade tensions, particularly through tariffs, are injecting significant uncertainty into the market, driving stock market declines and raising concerns about stagflation. Retailers are already experiencing increased costs and potential profit reductions, while broader economic indicators, like consumer spending and GDP growth forecasts, signal potential challenges. The Federal Reserve faces a complex dilemma, attempting to balance inflation concerns with economic growth amid these trade-induced pressures. »

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  • May 30, 2025 – Amidst a volatile market, significant economic risks such as high interest rates and trade policy are creating a tense environment where stock market gains may be capped. Key sectors, like housing, are already showing signs of strain from elevated rates, while the bond market remains turbulent. Therefore, a diversified and defensive investment strategy is recommended, emphasizing fundamental analysis and valuation discipline for stocks while holding high-quality bonds to navigate the expected volatility.
  • May 27, 2025 – The House has passed Trump’s big beautiful bill and moved it on to the Senate. It’s a budget buster that offers something for all but will expand deficits meaningfully. It’s a bit of a mess that can be fixed if the Senate has the backbone to fix it. Wall Street will be watching, especially bond investors.
  • May 22, 2025 – Memorial Day Weekend is typically the unofficial start of summer for many. However, this year has been anything but typical. Corporate earnings have been holding up based on recent company reports and outlooks. Tariffs have dented a few earnings reports, but the consumer continues to spend. Credit spreads are not indicating a recession yet, although interest rates have been on the rise as Congress works on a spending resolution bill. Markets gave back some of their recent gains yesterday but are still only about 5% from their all-time highs. Not quite bear market territory. Anyone traveling this weekend to a national park should remember to bring their bear spray.
  • May 19, 2025 – Stocks have clawed back all their post-Liberation Day losses as the perceived impact of tariffs have lessened. But now comes the hard part. Whatever tariffs are imposed will have economic consequences that we are only just starting to see. The big tax bill as originally proposed is a budget buster. 10-year Treasury yields are now back above 4.5%. With hindsight equity investors overreacted after Liberation Day. The subsequent rally may have gone too far as well.
  • May 15, 2025 – Following a big rebound, the S&P 500 is flat YTD but trades at a high valuation of 23x forward earnings. Consumer spending faces headwinds from rising student loan defaults and a cooling housing market. While recession fears have eased, the economy is slowing and inflation trends remain uncertain.
  • May 12, 2025 – China and the United States have agreed to reduce tariff rates on each other by 115% leaving our tariff rate on Chinese goods at 30%. Since shortly after the shock of Liberation Day that sent equity investors into panic mode, there has been a gradual retreat from an overbearing tariff framework outlined that day. Today’s suspension of tariffs, pending further negotiations may not be a final step. But it comes right out of the Trump playbook that shoots for the moon first and then settles into a much more compromised reality later. While tariff negotiations continue not only with China but the rest of the world, investors can now focus on the next leg of the Trump agenda, tax cuts.
  • May 8, 2025 – The Federal Reserve on Wednesday held its key interest rate unchanged in a range between 4.25%-4.5% as it awaits better clarity on trade policy and the direction of the economy. While uncertainty about the economic outlook has increased further, the Fed is taking a wait and see stance toward future monetary policy. Meanwhile, the S&P 500 Index has just about fully recovered its losses following the April 2nd “Liberation Day” when major tariffs were announced on U.S. trading partners. The bounce in risk assets is welcome, but we are still looking for white smoke signals showing that progress on inflation and tariffs is being made.
  • May 5, 2025 – Investors overreacted to Trump’s early tariff overreach but may have gotten a bit too complacent that everything is now back on a growth path. While there are few signs of pending recession, the impact of tariffs already imposed are just starting to be felt. So far, no trade deals have been announced although the White House claims at least a few are imminent. The devil is always in the details. Congress will start to focus on taxes. Conservatives may balk but there is little indication to suggest they won’t acquiesce to White House pressure once again.
  • May 1, 2025 – U.S. GDP unexpectedly contracted by 0.3% in the first quarter, the first decline since 2022, largely due to a surge in imports ahead of anticipated tariffs. Despite this GDP contraction, major tech companies like Alphabet, Microsoft, and Meta reported quarterly earnings, indicating continued strength in areas like advertising and cloud computing. However, concerns remain about the broader economic outlook due to uncertainty surrounding tariffs, potentially leading to higher prices, weaker employment, and a challenging environment for the Federal Reserve regarding inflation and interest rate policy.
  • April 28, 2025 – Markets rallied as the Trump Administration suggested tariffs might be reduced against China and that ongoing negotiations with almost 100 countries are progressing, although no deals have yet to be announced. But even with tariff reductions, the headwind will still likely be the greatest in a century. So far, the impact is hard to measure as few tariffed goods have reached our shores. Early Q1 earnings reports show little impact through March, although managements have been loath to predict their ultimate impact. Stocks are likely to stay within a trading range until there is greater clarity regarding the impact of tariffs.

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