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1Q25 CIO Commentary

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Photo credit: Chip Somodevilla/Getty Images

INVESTMENT ENVIRONMENT1

Source: Orion Advisor Services, AlphaGlider

The market’s enthusiasm for the return of Donald Trump to the White House soured quickly as the mercurial president prioritized tariffs over tax cuts and deregulation in the first months of his second term. The US equity market, as measured by the S&P 500,^a increased 4.5% over the first half of the quarter, but ended the quarter down -4.4%. Foreign equity markets performed much better, with developed markets posting a 6.9% gain and emerging markets up 2.9%, as measured by MSCI EAFEb and MSCI Emerging Markets,c respectively. Q1 was the worst quarterly underperformance for US stocks in 37 years. The prospect of a tariff-induced economic slowdown caused interest rates to decline during the quarter, pushing up the prices of bonds. Our fixed income benchmark, the Bloomberg US Aggregate Index,e was up 2.8%.

Emerging equity markets led the way over the last 12 months, up 8.1%, closely followed by the US’s 7.8% gain. Foreign developed equity markets were up 4.9%, as was the aggregate US bond index.

The US economy continued to post solid “hard” data in the first quarter. March saw 228,000 jobs added, well ahead of the 140,000 jobs expected by economists. The unemployment rate edged up slightly to a still healthy 4.2%. Inflation continues to run hot, but personal income growth continues to outpace it. The Federal Reserve’s key inflation measure, the core (excluding food and energy) personal expenditures index (PCE), rose 0.4% in February (2.8% year-on-year). Personal income rose 0.8% in February (4.6% year-on-year).

However, “soft” data began to roll over, perhaps indicating fear that the Trump administration’s tariffs, government layoffs, funding cuts, and immigration restrictions will trigger stagflation and recession. The year-ahead inflation expectations in the United States, as compiled by the University of Michigan, have nearly doubled since the November election to 5.0%. Consumer confidence has also taken a sharp fall in recent months as shown by readings from Michigan and the Conference Board.

 
 

Source: The New York Times, AlphaGlider

Trump campaigned on the need for tariffs to bring back manufacturing jobs to the US, raise tax revenue, and erase large trade imbalances. Once back in office, the first tariffs he applied were against China, Canada, and Mexico, to motivate each of them to curb fentanyl shipments into the US, as well as illegal immigration from the latter two. Soon after, Trump levied global tariffs against specific imported products, such as automobiles, auto parts, steel, and aluminum. However his largest tariff announcement was on April 2, a day he coined as America’s “liberation day.” Trump claimed that his global tariffs (which exclude Russia, and already tariffed Canada and Mexico) were calculated to be ‘reciprocal’ to match tariffs and other barriers applied to US exports. However the formula his staff used to determine each country’s tariff simply turned out to be the net deficit with that country divided by the total value of imports from that country, and then dividing by 2 (with a 10% minimum).

Trump’s ‘reciprocal’ tariffs are not reciprocal and have little relation to foreign trade barriers. Instead, they are frequently orders of magnitude larger than actual foreign trade barriers. For example, let’s look at Taiwan, with which the US had a trade deficit of $73.9 billion on $116.3 billion of gross imports last year. Trump’s tariff calculation for Taiwan came to 32% [73.9 / 116.3 / 2 = 32%]. Trump claims Taiwan has an average 64% tariff and other barriers on US goods, yet Taiwan’s average tariff is 4.8% and only 2.0% on a trade-weighted basis.

The weighted-average tariff across all imports into the US climbed from less than 3% to just over 30% when the ‘reciprocal’ tariffs went into effect on April 9 (but later that day reduced to 10% global tariffs but 125% for China), as shown below. This increase amounted to about 15 times more than Trump applied during his first term, and the highest since 1872. It is substantially higher than the disastrous Smoot-Hawley tariffs of 1930 when foreign trade was only one-third of today’s levels as a percentage of gross domestic product (GDP).

Unsurprisingly, some countries have responded with tariffs on the goods they import from the US. Canada, the US’s largest export destination, applied a 25% tariffs on autos as well as on approximately $30 billion worth of other US imports, these in response to Trump’s steel and aluminum tariffs. Also in response to these steel and aluminum tariffs, the European Union (EU) planned (now paused) a 25% tariff on approximately $23 billion worth of annual US imports. China, US’s third largest single-country export destination, imposed an 84% tariff on all US good imports (~$148 billion in 2023s) in response to Trump’s 125% total tariff (fentanyl and three rounds of unpaused ‘reciprocal’ tariffs) on Chinese imports. If Trump’s full ‘reciprocal’ tariffs go into place again, we expect more US goods exports to be hit with tit-for-tat tariffs.

Under Trump, the US has declared war on the global economic and political order it created coming out of the Second World War. This system was highly advantageous to the US, enabling it, with just over four percent of the world’s population, to control over one-quarter of the world’s GDP and more than two-thirds of the its stock market value exiting 2024.

In his first full day back in office, Trump announced that several large technology companies would be spending $500 billion to build artificial intelligence (AI) data centers across the US, starting with a $100 billion facility in Abilene, Texas. The venture, dubbed the Stargate Project, would be be funded by SoftBank (Japan), OpenAI, Oracle, and investment firm MGX, and involve Microsoft and Nvidia. Within a week of this announcement, Chinese start-up DeepSeek shook up the AI sector when the world learned that its new generative AI model performed similarly to top US-based AI models, but was created at a fraction of their cost with cheaper, slower processors that the US permitted Nvidia to sell to Chinese firms. Exiting the quarter, we learned that Microsoft is delaying or cancelling AI data center projects around the world (Indonesia, UK, Australia, Illinois, North Dakota and Wisconsin), suggesting it is reevaluating its future AI infrastructure requirements.

Germany, and to a lesser degree the rest of developed Europe, had the best performing stock markets in the first quarter. This, despite US threats and applications of severe tariffs against them, and the de facto American endorsement of Russia in its war on Ukraine. The markets’ newfound enthusiasm for Germany and Europe is the hope that the US’s withdrawal from free trade and collective defense will spur them to abandon austerity in favor of investment. In March Friedrich Merz, the presumptive next chancellor of Germany, successfully led an effort to amend the German constitution to remove the “debt brake” which had prevented Germany from borrowing more than 0.35% of its GDP in any given year. The lifting of this strict debt rule allows Germany to proceed with a plan to increase defense spending and Ukrainian military aid by over 1% of GDP and to set up a €500 billion fund to be spent on infrastructure upgrades over the next decade. The magnitude of this new spending exceeds that of Marshall Plan spending to rebuild Germany after WWII, and of Reunification spending to integrate East and West Germany in the 1990s after the fall of the Berlin Wall.

 

PERFORMANCE DISCUSSION

First Quarter
After a difficult fourth quarter, AlphaGlider strategies rebounded with a strong start to 2025. The primary driver of our relative outperformance came from the underweighting of US equities and the overweighting of foreign equities, particularly those in developed Europe. We were also helped by the mix within our underweight US equity position, which was heavily underweight large cap growth companies, yet overweight value, quality, and mid cap companies. And with inflation continuing to run hot, our inflation-protected bonds performed well for us.

There were a few areas that held back our strategies during the quarter, such as our overweighting of small cap US equities and the short duration of our fixed income holdings.

Our ESG strategies lagged their Core strategy counterparts during the quarter due to their underweighting of energy and defense companies.

Last 12 Months
AlphaGlider strategies generally performed inline with their respective benchmarks over the last 12 month period. Likewise, our ESG strategies performed similarly as our Core strategies over this period.

The list of positions helping our strategies was pretty eclectic. We were aided by overweight positions in emerging market, developed European, Singaporean, and US value equities. We were also helped by our underweight position in US technology companies, something we haven’t been able to say in a long time. Our fixed income investments were helped by their short duration and overweighting positions in inflation-protected and emerging market bonds.

Our strategies were hurt by their underweight position in the overall US equity market, and by their overweight positions in small cap US, Japanese, and South Korean equities. Additionally, our market neutral equity fund was flat over over the last year, falling behind its cash benchmark.

 

LOOKING FORWARD

The destruction of economic value across the world caused by Trump’s volatile tariff strategy is immense, but not to be overlooked is the damage that Trump is doing to the state of democracy in the US. Just as he bragged that he was a “tariff man”, Trump also plainly flagged that he would attempt to radically expand the power of the executive branch. This plan for autocratic capture at the expense of democracy is well laid out in many of his speeches and in his go-to-market playbook, Project 2025. We are still only in the third month of his new term, but here are examples of his attempts thus far to replace a system of rules-based policymaking across branches with decision-making by a few individuals.

Living under autocracy is bad for all citizens not in the autocrat’s inner circle, and this includes investors. One lesson from history is that good economic policy depends as much on process as on substance — and democracies have proven to be the superior political structure for creating economic prosperity for the masses. If the US continues down the road toward an unchecked, autocratic system of policymaking, it will carry severe long-term costs. The US has the most prosperous economy in world history, and it is no coincidence that it was built upon a democratic, rules-based system. There is immense value, both economic and social, to a responsible and functional government with checks and balances, rule of law, central bank independence, social safety nets, clean air and water, a strong educational system, and robust research & development programs. If these are maimed or destroyed, they will be difficult to rebuild. History tells us that autocratic countries are rarely good places to invest.

We were underweight US equities throughout the first quarter, mainly due to their high valuations. We will revisit our US equity weightings given their new, lower valuations, and lower growth prospects.

1% for the Planet

2024 marks the eighth year that AlphaGlider has contributed one percent of its revenue to a nonprofit working to address challenges posed by anthropogenic climate change. We made our 2024 donation to Ceres, a nonprofit advocacy organization that is working to accelerate the transition to a cleaner, more just, and sustainable economy. Ceres is unique in that it is one of the few organizations working with investors, companies, and policymakers to build leadership and make the economic case for bold climate action. As temperatures continue to rise, weather-related disasters become more frequent and severe, and the US government withdraws from the Paris Agreement for a second time, we believe that the work of 1% for the Planet nonprofits has never been more important.

Vanguard Fee Reductions

The Vanguard Group is by far the largest supplier of funds to AlphaGlider strategies. Unburdened to deliver an operating profit to its shareholders (Vanguard is owned by its funds’ investors, i.e. you and me), it is able to undercut most of its for-profit competitors in the fund fees it charges. In turn, their low cost attracts more investors and builds more scale, allowing it to lower those fund fees further — creating a virtuous growth cycle. Vanguard was at it again in February, reducing fund fees on 87 of it funds, including many that are used in AlphaGlider strategies. With these $350 million in annual fee reductions, we are happy to report that all core AlphaGlider strategies now have aggregate fund fees of around 4 basis points (0.04%). And the fund fees of our ESG strategies have been reduced to 8 to 10 basis points.

Minimizing investment costs, be they taxes, advisory fees, or fund management fees, are a critical factor in maximizing your long-term investment returns. Minimizing fund fees has allowed Vanguard funds to consistently outperform most of its competitors’ funds. For example, 88% of Vanguard’s equity funds outperformed their Lipper peer-group averages for the 10-year period ended December 31, 2024 according to LSEG Lipper. Using Vanguard funds for our AlphaGlider strategies is one element in our attempt to deliver the lowest cost investment solution possible.

NOTES & DISCLOSURES

1This material represents an assessment of the market and economic environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. Forward-looking statements are subject to certain risks and uncertainties. Actual results, performance or achievements may differ materially from those expressed or implied. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete, and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor.
2Mutual funds, exchange-traded funds and exchange-traded notes are sold by prospectus. Please consider the investment objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the investment company, can be obtained directly from the Fund Company or your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.
3Alternative investments, including hedge funds, commodities and managed futures involve a high degree of risk, often engage in leveraging and other speculative investments practices that may increase risk of investment loss, can be highly illiquid, are not required to provide periodic pricing or valuation information to investors, may involve complex tax structures and delays in distributing important tax information, are subject to the same regulatory requirements as mutual funds, often charge higher fees which may offset any trading profits, and in many cases the underlying investments are not transparent and are known only to the investment manager. The performance of alternative investments including hedge funds and managed futures can be volatile. Often, hedge funds or managed futures account managers have total trading authority over their funds or accounts; the use of a single advisor applying generally similar trading programs could mean lack of diversification and, consequently, higher risk. There is often no secondary market for an investor’s interest in alternative investments, including hedge funds and managed futures and none is expected to develop. There may be restrictions on transferring interests in any alternative investment. Alternative investment products including hedge funds and managed futures often execute a substantial portion of their trades on non-US exchanges. Investing in foreign markets may entail risks that differ from those associated with investments in the US markets. Additionally, alternative investments including hedge funds and managed futures often entail commodity trading which can involve substantial risk of loss.
4Rebalancing can entail transaction costs and tax consequences that should be considered when determining a rebalancing strategy.
^Indices are unmanaged and investors cannot invest directly in an index. The performance of indices do not account for any fees, commissions or other expenses that would be incurred.
aThe Standard & Poor's 500 (S&P 500) Index is a free float-adjusted market capitalization weighted index that is designed to measure large cap US equities. The index includes 500 leading companies and captures approximately 80% coverage of available market capitalization in the US equity markets.
bMSCI Europe, Australasia and Far East (EAFE) Index is a free float-adjusted market capitalization weighted index that is designed to measure the investable universe of developed market equities outside of the US.
cMSCI Emerging Markets (EM) Index is a free float-adjusted market capitalization weighted index that is designed to measure large and mid-cap equity market performance in the global Emerging Markets.
dMSCI All-Country World (ACWI) Investable Market Index (IMI) is a free float-adjusted market capitalization weighted index that is designed to measure the investable universe of global equity markets.
eThe Bloomberg Barclays US Aggregate Bond Index is a market capitalization weighted index that is designed to track most investment grade bonds traded in the United States. The index includes Treasury securities, government agency bonds, mortgage-backed bonds, corporate bonds and a small amount of foreign bonds traded in the United States. Municipal bonds and Treasury Inflation-Protected Securities (TIPS) are excluded due to tax treatment issues.


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