From Rare Soft Landing to Common Bull Market
There have been just four soft landings in history — in 1968, 1985, 1995, and now, in 2024. Because soft landings are so rare, market participants don’t have a lot of data points to make bold predictions about the future. But, historically, economic growth has accelerated in the years following a soft landing. And that pattern is likely to repeat in 2025.
Bull Market Continues
The soft landing outcome has propelled stocks to all-time highs in 2024. Meanwhile, credit spreads are historically tight and most measures of market volatility are tranquil. Solid corporate profits are forecast to accelerate throughout 2025, especially in the US. And the Trump administration’s policy goals — including deregulation, lower energy costs, and tax cuts — could boost an already growing US economy.
The Federal Reserve Bank of Atlanta GDPNow forecast suggests that the economy will expand at a 2.6% annual rate in the fourth quarter of 2024.1 Most forecasts predict that US GDP will grow by 2% to 2.5% in 2025, far from recession territory.
The labor market remains resilient. The US has added more than 2.1 million jobs in the past 12 months. The unemployment rate is at a historically low 4.1%.2 Wages are growing faster than inflation. And businesses are reluctant to lay off workers, a positive leading indicator for the economy.
Fully employed consumers are likely to keep spending. The top 20% of income earners are responsible for 40% of consumption,3 and they are in great shape.
Somebody’s consumption is somebody else’s profit. S&P 500® companies are projected to grow their earnings by 9.4% in 2024. Remarkably, analysts are forecasting even better earnings growth of 15% in 2025.4 If S&P 500 companies deliver on earnings, already lofty profit margins would reach all-time highs.
At the same time, inflation continues to crawl back toward the Federal Reserve’s (Fed) 2% target. The Fed’s preferred inflation measure, the Core Personal Consumption Expenditures (PCE) Price Index, has fallen by 0.4% over the past 12 months, from 3.2% to 2.8%.5
Bull Markets Don’t Fade Away
There’s an old market adage that claims economic expansions don’t die of old age. The implication is that a catalyst is needed to end the good times.
Yet, elevated valuations have rarely been a good predictor of short-term stock market performance. Expensive investments can, and often do, get more expensive in the near term. Failure to meet or exceed sky-high earnings expectations next year could disrupt the market’s rally. Resurgent inflation also could thwart the economic expansion, but rising inflation is more likely a 2026 problem than a 2025 problem. Ultimately, the direction of real interest rates may be the final arbiter on whether this expansion lives or dies.
Still, standing on the precipice of 2025, it’s difficult to envision any of these visible risks as the impetus for an economic contraction and an end to the market’s rally next year.
Sticking the Landing, Watching for Growth
What did the economy withstand to achieve a soft landing in 2024? From March 2022 to July 2023, the Fed raised interest rates 11 times, the most aggressive pace in 40 years. Fed policymakers increased the target range for the federal funds rate from 0% to a peak of 5.25% to 5.50%. These rate hikes helped cool inflation from a peak of 9.1% in June 2022 to 2.6% in October 2024.
Despite all the rate hikes, the economy avoided recession and the labor market endured. Defying the odds, the Fed slowed the economy enough for inflation to fall, but not so much that it slipped into recession.
Economic growth has slowed from a 4.9% annual rate in the third quarter of 2023 to a 2.8% annual rate in the third quarter of 2024.6 The unemployment rate climbed from 3.4% in April 2023 to 4.3% in July 2024, signaling a softening labor market.7 And, with the target range for the federal funds rate notably above current measures of inflation, the Fed began its interest rate-cutting cycle in September, slashing interest rates by 0.75% at its last two meetings. With rates at 4.50% to 4.75% in November, most Fed watchers expect the central bank to cut rates by another 0.75% to 1.00% in 2025.
So, what happens next?
History doesn’t repeat itself, but it often rhymes. The Fed’s tightening cycle prior to the most recent soft landing in 1995 was also aggressive.
From February 1994 to February 1995, the Fed raised interest rates seven times over 13 months. Inflation wasn’t the culprit then; it was an overheating labor market. The Fed doubled the target range for the federal funds rate from 3% to 6% without causing a recession. Fearing that monetary policy conditions had become too tight, the Fed made a series of mid-cycle adjustments, cutting interest rates three times by 0.75% from July 1995 to January 1996. Following the 1995 soft landing, US GDP accelerated from 2.7% in 1995 to 3.8% in 1996.
Today’s Fed mid-cycle adjustments could produce a similar bump to the US economy in 2025.
Learning from the Ghost of Soft Landings Past
As the Fed aggressively raised rates through July 2023 to defeat inflation, capital formation plunged.
Initial public offerings (IPOs) are now well below the average of the past 20 years. Mergers & acquisitions (M&A), hindered by higher rates and a tougher regulatory environment, are below 10-year averages.8 Private equity firms have $3.2 trillion in assets in their portfolios just waiting for an exit plan. Private equity deal values have fallen 60%, deal count has plummeted by 35%, and exit values are down 66%.9 Businesses' capital expenditures have been constrained by higher rates and stiff regulations, especially in manufacturing industries.
Fed rate cuts combined with lower potential energy costs, lighter regulation, and lower taxes could unleash a period of massive capital formation through IPOs, M&A, and increased capital expenditures. Artificial intelligence (AI) also has the potential to bolster economic growth, increase productivity gains, and create the next wave of innovative new businesses.
The 1995 soft landing also included an enormous increase in computing power that intersected with the global adoption of the Worldwide Web by both consumers and businesses. This fostered an era of exceptional economic growth and the Greenspan productivity miracle.
In fact, the years following the 1995 soft landing up until the TMT Bubble burst in March 2000 were some of the greatest years on record for stock market performance. The S&P 500 returned 37.2% in the 1995 soft landing year, on its way to five consecutive years of annual returns above 20%. Could the year-to-date S&P 500 return of 28.1% in 2024’s soft landing be the start of another historic bull market run?10
No pain, no gain. That exceptional post-soft landing bull market run from 1995 to 1999 came with far greater volatility than today’s investors are accustomed to. Some market observers blame the Fed’s monetary policy decisions for causing the Thai baht currency crisis, Russian debt default, and Long-Term Capital Management (LTCM) failure.
Simultaneous transitions in government leadership, monetary policy, and fiscal spending are likely to increase capital market volatility in the current post-soft landing period. Greater market volatility may be the price market participants pay for faster economic growth and potentially higher stock market performance.
Anticipating Another Multiyear Bull Market
The current bull market celebrated its second birthday on October 12, 2024. On average, a bull market lasts a little more than five years. And if the current bull market ended now, it would be one of the shortest on record. Building on the solid gains of the past two years, the current environment suggests the rally may continue in 2025.
What does that mean for investors looking to position portfolios for the year ahead?
- Within equities, the Fed’s easing cycle, strong US economic growth bolstered by the Trump administration’s policy goals, and AI-related leadership point to opportunities in US small caps, regional banks, and the broad AI value chain.
- Within fixed income, while monetary policy has been the recent driver of interest rate trends, expected trade tariffs, immigration reform, and tax cuts all mean fiscal policy also will likely impact interest rate volatility in 2025. But the Trump administration’s pro-business policies may boost credit’s favorable outlook.
- Finally, structural shifts in leadership, monetary policy, and fiscal spending have contributed to the high correlation between stocks and bonds that has destabilized traditional portfolios, making now a good time to consider diversifying to restore balance and help temper a potential increase in volatility.
When constructing investment portfolios for 2025, investors should consider these three themes:
