OUTLOOK 2025: A NEW REGIME AND DEEPENING FRAGMENTATION

Posted on January 27th, 2025

As investors, we were somewhat spoiled in 2024.  Markets rose as inflation fell, and global economies breathed a sigh of collective relief as the risk of global recession faded. Looking ahead, central banks have started cutting policy rates that can further support global growth and corporate profitability. But, will this relative steadiness last throughout 2025? We suspect not. With a new (but also returning) President in the White House, we are stepping into a known unknown.

Volatility over stability could be the order of the day. In a series of articles, we examine what is in store for global markets across key themes for equities, fixed income, and private markets.

An economic makeover

As we step further into 2025, economies are undergoing something of a makeover. Protectionist policies look set to reconfigure established trade partnerships and supply chains. Most developed economies are constrained by inflation, low growth, and political extremism. The re-election of Donald Trump and the Republican sweep of Congress could lead to measures that add to volatility rather than stability. While the specifics on potential policy shifts remain uncertain, President Trump has stated that he will use extreme tariffs to protect US interests.  For decades the benefits of global trade were widely accepted, however, tariffs are now being used as negotiating tactics that could instigate trade wars. The geopolitical environment is extremely fragile, and macro policy has the potential to be a source of disruption.

This lose-lose combination of greater strategic rivalry and reduced economic cooperation risks putting the brakes on any potential for global economic growth, while paving the way for future inflationary shocks. This fundamentally changes the investment landscape. The long-held tenet of diversification – blending stocks and bonds – may not be applicable under this new regime. Investors must look for a new way.

At Border to Coast, we believe investors can find opportunities by tapping into secular growth themes that can withstand the deepening fragmentation in the global economy. Looking at asset allocation through a more thematic lens can, in our opinion, help investors position portfolios in this new era of shorter and less predictable cycles. Disruptive trends with secular growth potential can help investors navigate this uncertainty by removing the need to rely on traditional metrics of economic progress to deliver returns.

What next for artificial intelligence?

Despite the meteoric rates of adaptation in artificial intelligence (“AI”), it looks set for further acceleration in 2025 as processing power increases and efficiencies improve. To date, tech giants have driven record levels of capital expenditures to data centres that can power these systems. Big cloud providers and chip producers are currently benefitting from this wave and as the adaptation continues it could unlock new revenue streams across the global economy.

“While today’s enablers dominate headlines, the next wave of market leaders will likely arise from businesses applying AI to revolutionise specific industries…”

History shows that transformative technologies often yield unexpected winners. While today’s enablers dominate headlines, the next wave of market leaders will likely arise from businesses applying AI to revolutionise specific industries. Sectors such as healthcare, finance, and logistics stand poised for disruption with emerging players using AI to deliver precision medicine, automate operations, or create personalised customer experiences.

Moreover, diversifying across the AI value chain including enablers, adopters, and innovators can help mitigate risks tied to current market concentration. Focusing on long-term structural trends rather than short term hype, investors can position themselves to capture AI’s transformative potential while avoiding overexposures to crowded winners.

For more on the AI boom, click here. 

The net zero investment opportunity

Energy consumption is the often-overlooked elephant in the room when it comes to AI and the associated data centre expansion. Both demand vast amounts of power. When coupled with the global push to decarbonise economies, there is a clear need to expand renewable energy capacity, improve storage efficiency, and upgrade related infrastructure.

The convergence of decarbonisation and digitalisation are structural shifts that will continue to unfold over the longer term regardless of who sits in the White House. Alternative investments in private markets, particularly infrastructure, are well positioned to capture this trend. Renewable energy projects such as wind farms, solar panels, and hydrogen plants offer stable long-term cash flows and direct exposure to decarbonisation efforts.

Investment in electrification, grid modernisation, and electric vehicle charging networks are essential for enabling the effective use of the energy generated by renewables and supporting the energy transition. Private markets also provide unique opportunities to fund innovative startups and technologies that are yet to go mainstream.

The shift to a low-carbon economy is not just about mitigating risks – it represents a paradigm shift in how energy is produced, consumed and optimised. Investors who position themselves at the forefront of this transition can capture both the potential for sustainable growth and meaningful impact, positioning the energy transition a cornerstone theme for portfolios.

For more on the opportunity to invest in the energy transition click here.

Finding a new equilibrium

The period between the end of the Global Financial crisis and the onset of the Covid pandemic was marked by ultra-low interest rates. In fact, Europe had a decade-long experience with negative interest rates to encourage bank lending to kick-start growth and fend off disinflation. This led to the acceptance of TINA (There Is No Alternative), a phenomenon in which stocks and shares were the only option if you were looking for returns.

However, as inflation began to rear its head in early 2021 and central banks came to terms with the fact that inflation was not “transitory”, they kicked off one of the quickest rate hiking cycles on record from early 2022 onwards. Investors experienced significant losses and traditional stock/bond portfolios offered no protection.

As major economies have adjusted to this new interest rate equilibrium, the balance of risks have changed for global investors. Credit investments now offer equity-like returns with significantly less volatility. With inflation and interest rates likely to remain structurally higher than they were in pre-pandemic, investors do not need to rely as heavily on riskier investment to achieve overall returns targets.

For more on fixed income click here.

Hidden risks of passive investment

Passive investing has grown immensely popular over the past decade, driven by low fees and simplicity. Yet, as equity markets become increasingly concentrated in a handful of mega-cap names, the hidden risks of a purely passive play have been exposed.

This concentration poses significant risks for investors whose portfolios mirror market cap weightings, leaving them disproportionately exposed to these mega-cap stocks. Any downturn in these companies, whether due to regulatory pressures, intensifying competition, or market corrections could amplify portfolio losses.

This dynamic is reminiscent of the “Nifty 50” era of the 1970s, when a small number of “bulletproof” stocks dominated the market. Over time, many of these companies underperformed as they struggled to meet the hefty valuation expectations, dragging down portfolios overly reliant on them. In this case, the risks of market concentration became painfully clear, exposing the limitations of passive strategies during periods of market dislocation.

“This dynamic is reminiscent of the ‘Nifty 50’ era of the 1970s when a small number of ‘bulletproof’ stocks dominated the market…”

Active strategies can help identify undervalued opportunities in overlooked sectors or regions and mitigate the concentration risk. Fundamentally weighted indices can also offer a compelling alternative to traditional market cap weighted indices. By emphasising factors such as valuations and profitability, these indices can provide a more balanced exposure across sectors and market capitalisations. This approach helps investors align with long-term fundamentals rather than chasing momentum-driven trends. While passive investing remains a powerful tool, investors must recognise its limitations in a concentrated market. A more dynamic approach, blending active strategies and alternative exposures, may help manage risk and capture opportunities in this uncertain environment.

For more on past market boom and bust click here.

Regime Change

The pre-pandemic era, often referred to as the “Great Moderation”, was characterised by stable economic growth, low inflation, and low market volatility. Central banks maintained accommodative policies, while globalisation fostered efficiency and price stability for over four decades. This environment provided a fertile ground for the success of the traditional equity-bond portfolios, which benefited from muted macroeconomic volatility and consistent diversification between asset classes. This stability encouraged robust economic expansion while fostering favourable conditions for equities. Meanwhile, bonds served as a reliable hedge, offering steady income and downside protection during periods of equity market turbulence.

This came to a sudden halt in 2020. Inflation, geopolitical fragmentation, and supply chain realignments in the post pandemic world have disrupted the equilibrium of the Great Moderation era. Secular forces such as energy transitions, demographic changes, and reshoring of industries are introducing structural pressures that amplify volatility in the economic and market cycles.

In this new regime, traditional investment strategies may no longer suffice. Alternative strategies can provide exposures to asset classes that are less correlated with traditional equities and bonds. Strategies like private credit, infrastructure, and real estate can generate returns independent of broad market trends. For example, private credit assets are floating rate instruments providing income that is adjusted with higher interest rates. This feature helps preserve real returns in inflationary environments as central banks raise interest rates to combat inflation.

For more on private credit click here.

Investors also need to adapt to a more dynamic approach to actively adjust portfolio exposures in response to evolving market conditions. Actively adjusting allocations across asset classes can help manage correlations that may shift unpredictably during macroeconomic shocks reducing the overall portfolio risk.

Adapting to this era of higher volatility will require flexibility, discipline, and a forward-looking perspective. By embracing a more dynamic approach, investors can position themselves to manage risks and capture opportunities in a post-pandemic world that has bade farewell to the Great Moderation.

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