Rockbridge Institutional – May 2025 Market Review

Market Review

In May, stocks rewarded perseverance, bond yields flashed concern. Here’s the data: note especially:

• The generally positive stock market returns this month and quarter
• The negative bond returns reflecting rising yields
• International markets significantly outpacing domestic markets so far this year
• The positive five-year stock results
• Returns of a diversified equity portfolio (highlighted) in all periods

Stocks

Stocks came back nicely in May, perhaps indicating less concern with the eventual impact of tariffs.  Volatility in domestic stock prices is down. The VIX Index (a measure of the implied volatility in prices of S&P 500 options) fell steadily from its peak in early April. However, stock prices continue to respond daily to announced changes in tariffs.

Recent returns in international markets exceed those of domestic markets. While extrapolating these results into the future should be done with care, it does demonstrate the benefits of diversification and is a welcome change for those that have been advocating commitments to international markets for some time.

The past five years have been good for stocks. While the S&P 500 stands out, a diversified equity portfolio that includes commitments to international, as well as domestic, stocks earned an annual return of 13% over this period. Also, note the consistency of this portfolio’s return in each period – the benefits of diversification. While five years is a relatively short period, it is better than two-thirds of the nearly 200 rolling five-year periods since 1971.

Bonds

This month’s losses in bonds reflect rising interest rates and yields. Inflation, measured by changes in the Consumer Price Index (CPI) remained generally in check. Consequently, it’s rising interest rates that are pushing yields up. Yields at the long end (30 years) are now close to the 5% threshold. The impact, primarily on the deficit, of the Tax Bill winding its way through Congress contributes to today’s bond market uncertainties. Also, adding to interest rate uncertainty, although not yet reflected in markets, is the impact of tariffs on inflation expectations. The impact of legislation, as well as tariffs on inflation, remains a concern.

Risk and Uncertainties

The yield on 10-year Treasuries is a reasonable proxy for long-term interest rates. Plotting the path of this yield over the previous five years shows a persistent rise from under 1% to the current level of 4.4%. This yield is the sum of inflation adjusted (real) yields and expected inflation over the period. The pattern of inflation-adjusted 10-yr yields is similar, consistent with concluding that it is rising interest rates that is pushing yields up.

While increasing from a non-sustainable level of below 1%, these increases can be alarming. Continuing deficits and the need to rely on international trade for their funding, have added to bond market risk as reflected in the reduced credit rating by Moody’s. Higher interest rates add to the cost of financing deficits.

While a diversified stock portfolio has behaved nicely in recent periods, plenty of concerns from increasing interest rates, growing deficits, and tariff implementations remain.  Expect continued ups and downs.