The 5 Biggest Market Surprises of 2024. By Lisa Shalett.
For investors, 2024 was a year of surprises, defying many of the predictions that economists and strategists made at this time last year. In particular, consider the remarkable gains in the S&P 500 Index, which was on track to close up more than 25% for 2024, well ahead of Wall Street analysts’ forecasts, in one of its strongest annual performances of the last quarter-century.
What made 2024 so extraordinary for the U.S. economy and markets? And can these exceptional circumstances persist in the new year? Here are five surprising developments that Morgan Stanley’s Global Investment Committee believes warrant closer examination heading into 2025.
Higher interest rates didn’t do much harm to the U.S. economy
Despite the Federal Reserve implementing one of the most aggressive rate-hiking cycles in the last 45 years, the U.S. economy was resilient. Real GDP growth for 2024 is projected to be a robust roughly 2.9%, slightly higher than in 2023. This economic strength persisted even as sectors like commercial real estate, regional banks and many smaller companies and startups faced big challenges. While supportive fiscal policy likely helped, two factors may also explain the economy’s resilience:
The less-regulated “shadow banking” system, including private equity firms, may have helped to buffer the impact of Fed tightening by providing alternative financing sources to businesses.
Wealth has become increasingly concentrated among large corporations and affluent households, which typically hold excess cash and may be less sensitive to interest rate changes. As a result, they likely were able to bolster the economy with continued spending.
Key question for 2025: What will be the impact of lower rates?
Rising unemployment didn’t materially dent consumption
Historically, a meaningful rise in the jobless rate often signals a downturn in consumer spending and economic activity. However, in 2024, even as unemployment increased from 3.7% to 4.2%, overall consumer spending remained strong. This may be partly due to the wealth concentration mentioned above, which can stimulate aggregate consumption. It could also be partly attributed to the contribution of immigration to the economy, which is estimated to have added 1% to real GDP this past year.
Key question for 2025: Will immigration reform be a drag on growth?
Traditional economic indicators were less predictive
The shift in the U.S. economy away from manufacturing to services has perhaps rendered traditional economic indicators, such as The Conference Board’s Leading Economic Index and the Institute for Supply Management’s manufacturing index, less effective in predicting economic trends. These indicators have been signaling contraction for some time now, yet the economy continued to expand, driven by the services sector and a shrinking number of increasingly dominant multi-industry companies.
Key question for 2025: Could the incoming administration’s push for deregulation accelerate the concentration of economic power in the hands of a few dominant players, diluting the efficacy of broad economic measures and exacerbating income disparities?
Easy financial conditions prevailed, despite monetary tightening
Even with the Fed’s rate hikes and “quantitative tightening” to reduce the money supply, financial conditions surprisingly eased. This can be traced back to strategic moves by the U.S. Treasury to ramp up issuance of short-term Treasury bills, which money market funds quickly bought up, amid soaring investor demand for cash-equivalent yields above 5%. This deficit-funding maneuver helped keep ample cash flowing through the financial system, leading to easier access to credit for companies and consumers, even as monetary policies tightened.
Key question for 2025: If the U.S. Treasury switches to a more balanced issuance schedule including more longer-term bonds, as incoming officials suggest, will financial conditions tighten in 2025, despite lower rates?
Equity valuations continued to expand, despite higher rates
The enthusiasm for generative AI and other innovations led to a significant concentration of market gains in a few mega-cap tech companies, pushing their valuation multiples higher. Typically, higher rates might leave such richly valued stocks vulnerable by raising the bar on future profits needed to justify their price. Yet, despite a delayed start to the anticipated rate-cutting cycle and a shift higher in the Fed’s estimated “neutral rate” that neither stimulates nor stifles the economy, these companies’ valuations have continued to expand, driving the S&P 500 to unexpected heights.
Key question for 2025: Could the new year bring an unexpected shock that resets these multiples closer to long-run trends?
Looking Ahead
Suffice to say, 2024 was a year that challenged many traditional economic assumptions and models. Given this unpredictability, portfolio risk management should remain a key focus for prudent long-term investors heading into 2025.
In particular, consider rebalancing portfolios to strategic asset allocation targets and pursuing maximum diversification among stocks, bonds, real assets, hedge funds and private investments.