Why Investors Should Continue to Climb the Wall of Worry

"Worry often gives small things a big shadow." -Swedish Proverb

Brick by brick, investors are building a towering wall of worry. Trump administration actions, evolving Federal Reserve (Fed) monetary policy, relentless inflation, the DeepSeek debate, and a US economic growth scare have all contributed to rising investor anxiety in recent weeks.

Importantly, this note is neither an endorsement nor an indictment of Trump policy. It’s an apolitical attempt to assess the economic and capital market reaction to the early days of the second Trump administration.

It may be hard for investors to believe, but there is more to market volatility than reacting to the latest Trump executive action. Trump administration policies are fundamentally contradictory. Some will boost growth and inflation while others may curtail growth and be disinflationary. The size, timing, and impact are highly uncertain. Many investors support the president’s pro-growth business agenda, but the administration’s frenetic approach to policymaking is unsettling.

Despite the S&P 500 hitting three all-time highs so far this year, extraordinarily tight credit spreads, and mild measures of market volatility, there is noticeable uneasiness in news headlines, client meetings, and market sentiment. The American Association of Individual Investors (AAII) Investor Sentiment Survey from February 26 revealed that more than 60% of respondents were bearish about the stock market in the next six months, a 20% increase from the prior week.

This is a healthy departure from the near-euphoric sentiment levels reached in early December.

And following the typical Election Day to Inauguration Day rally, it’s common for investor doubts to surface regarding the new administration’s developing agenda. Those concerns plagued the early days of the Obama, Trump 2017, and Biden administrations, but the S&P 500?produced solid returns in all of their first years. According to Strategas Research Partners, the S&P 500 has had a positive return in nine of the past 10 first years of the four-year presidential term. And over the past 20 years, year one has delivered the best average performance of the four years.1

So, let’s examine four bricks in the monumental wall of worry and determine whether investors should keep scaling the wall despite the risks.

The Messiness of Making America Great Again

Voters elected Donald Trump and investors celebrated his victory with a post-election rally. So, why the investor nervousness now that the Trump administration is aggressively pursuing its promised policy goals?

In just the first six weeks of Trump’s second term, investors have been asked to digest a substantial number of executive actions, lawsuits, tariff announcements, tougher immigration policy, Department of Government Efficiency (DOGE) activity, and a rapidly changing new world order.

This is all unfolding with a possible government shutdown looming on March 14. It’s a lot. Understandably, investors are anxious, and they’re trying to assess the risk and return impacts in real time, in a very fluid environment.

There have been 108 executive actions —73 executive orders, 23 proclamations, and 12 memorandums — signed by President Trump. The president signed more executive orders in his first 10 days in office than recent presidents signed in their first 100 days. More than 90 lawsuits have been filed challenging Trump’s executive orders and moves to reshape the federal government. The incredible amount of activity makes it difficult for investors to determine the potential economic impact from the executive actions and lawsuits.

Trade policy from the self-proclaimed Tariff Man is a prime example. Tariffs on Mexico and Canada went into effect on March 4 after a 30-day delay and an existing 10% tariff on China doubled. On February 13, the president issued a memorandum on the development of a comprehensive plan on reciprocal trade and tariffs, citing the economic and national security threat posed by the trade deficit. Tariffs are planned for steel, aluminum, copper, autos, semiconductors, and pharmaceuticals. The list of products and countries threatened by tariffs grows daily.

The Trump administration views tariffs as a tool to address trade imbalances, raise revenues for the federal budget, and pursue policy goals such as immigration enforcement. But unpredictable tariffs have contributed to an increase in consumer inflation expectations and created challenges for businesses.

Market participants also will be watching the impact of the next phase of immigration policy. Border Patrol Chief Mike Banks recently told CBS News that illegal border crossings at the US southern border are down 94% from the same period last year. Banks credited the many executive actions taken by President Trump for the significant decline in illegal immigration. Cracking down on illegal immigration and arresting criminals is good policy, but it’s very different from the worst fears of mass deportations threatened on the campaign trail.

The number of legal permanent residents entering the US has been remarkably consistent since 2017 — averaging roughly one million per year, except for an understandable dip during the pandemic. Legal immigration is good for the US economy.

Meanwhile, DOGE, led by billionaire Elon Musk, has been wreaking havoc on the federal government —trying to close several departments including the U.S. Department of Education and eliminating wasteful spending, slashing government jobs, and uncovering fraud. Even investors who support the policy goals of DOGE may find its confusing and theatrical execution unnerving. ?And increasingly, investors may find it difficult to ignore the rising risk of unintended consequences or a possible policy mistake from DOGE actions.

Trump’s new world order also has investors on edge. The Trump-Zelenskyy Oval Office clash. Negotiating the end of the Ukraine-Russia war without our NATO allies and Ukraine at the table. Voting alongside Russia, North Korea, Iran, China, and other Moscow-friendly countries against a UN resolution that would have condemned Russia for the war. Trump’s strange comments about seizing Gaza and making it the Riviera of the Middle East. Threats to take back the Panama Canal, acquire Greenland, and make Canada the cherished 51st state. There may be a method to the geopolitical madness, but it can be a challenge for investors to decipher the administration’s end game.

To help make the seemingly unpredictable Trump more predictable, I created a three-part framework for investors in April 2018, 15 months into the first Trump presidency. Although the stakes may be higher now, my framework is still applicable for Trump’s second term.

First, investors have a list of Trump campaign promises. The president will attempt to deliver on every single promise. MAGA proponents are proud of the “promises made, promises kept” mantra. Whether investors agree or disagree with the campaign promises, at least they know what to expect from the administration.

Second, investors can benefit from understanding the negotiating tactics outlined in Trump’s 1987 book, The Art of the Deal, one of his proudest accomplishments. Trump summarizes his negotiation success this way, “My style of deal-making is quite simple and straightforward. I aim very high, and then I just keep pushing and pushing and pushing to get what I’m after.” Trump also boasts that he’s not afraid to use wild exaggeration in his negotiating process. You don’t say.

Third, Trump’s chaotic leadership style hasn’t changed since we were introduced to it during his reality TV show The Apprentice. President Trump and Musk thrive in chaos. They crave it. Investors should expect the president’s leadership style to continue throughout his second term. For investors unsettled by the president’s style, perhaps the pace of policy action will slow. How can it not?

Investors did find a way to adapt to President Trump’s unique leadership style during his first term and risk assets performed well. The best advice now may be for investors to focus on what the Trump administration does, not on what the Trump administration says.

Of course, the Trump administration is just one brick in the growing wall of investor worry.

The Fed’s Inflation Problem

On February 12, the Consumer Price Index (CPI) increased at 3% year-over-year, the fastest pace in one and a half years. The hotter-than-expected inflation data continued a recent upward trend and reinforced the Fed’s January 29 decision to hold interest rates steady. Stubborn inflation data has led to an alarming rise in consumer inflation expectations in recent surveys. Rising prices for a range of goods and services combined with the potentially inflationary impulses of the Trump administration’s policy agenda have contributed to the increase in inflation expectations.

Fed policymakers signaled in December that they expected fewer rate cuts this year because of elevated inflation data. Now, with prices still rising, increasing inflation expectations, and concerns about the possible inflationary impact of future government policies, Fed officials have expressed no hurry to resume interest rate cuts anytime soon. Market participants are pricing in less than two Fed cuts this year. Investors are anxious.

But January CPI data is notorious for overshooting expectations. Businesses often raise prices at the start of the year, as was evident in a record surge in the cost of prescription medication and in the increase in motor vehicle insurance. Economists also point to seasonal adjustment factors that boost inflation measures early in the year.

On February 28, the Fed’s preferred inflation measure, the core Personal Consumption Expenditures (PCE) Index excluding food and energy increased by 2.6% annually, lower than the 2.9% annual figure reported in December. Easier year-over-year comparisons are likely to result in friendlier inflation figures as the year progresses.

At the start of last year, market participants were expecting six or more Fed rate cuts in 2024. The Fed cut rates far less and much later in the year than investors anticipated. Yet, the economy expanded and earnings increased solidly, fueling another strong year of stock market performance. The Fed may or may not cut rates this year; but if the economy grows, earnings rise, and the labor market remains resilient, that should be enough to propel stocks higher for a third consecutive year.

??

At the tail end of the previous tightening cycle in 2018, the Fed mistakenly expected tariffs to bolster inflation. They did not. As a result, the Fed was forced to cut rates aggressively in 2019. Investors should hope that when it comes to future government policy’s impact on inflation, the Fed does what it says, and it does not guess, speculate, or assume.

Cooling inflation and a slowing economy later this year should provide the Fed ample wiggle room to cut rates at least twice, possibly more, in 2025.

?AI’s Sputnik Moment and the Fight for Supremacy

On January 27, tech stocks plummeted in response to the emergence of a low-cost Chinese artificial intelligence (AI) model that could threaten the dominance of US AI leaders like OpenAI. Chinese startup DeepSeek launched a free AI assistant that it claimed used less data at a fraction of the cost of existing models. By the end of January, downloads of DeepSeek’s AI assistant surpassed US rival ChatGPT’s downloads on Apple’s app store.

Famed Silicon Valley venture capitalist Marc Andreessen declared on X that DeepSeek’s model was AI's "Sputnik moment," referring to the former Soviet Union's satellite launch that marked the start of the space race in the late 1950s.???????????????????????????????????????????????????????????????????????????

Investor excitement about the prospects for AI has sent tech stocks soaring over the past two years, inflating valuations and helping markets reach all-time highs. If DeepSeek has created a better AI model at a far lower cost and with a lighter energy footprint, it would fracture the AI narrative that has propelled markets higher. It could result in less demand for expensive semiconductor chips, reduce the need for a massive buildout of power production to develop the models, and require fewer large-scale data centers.

On February 24, news that AI hyperscaler Microsoft had canceled some leases for US data center capacity further fueled the fear that the promising AI bubble may have finally popped. Today, more than a month after DeepSeek’s debut, US AI stocks have never fully recovered from the opening salvo in the battle for AI supremacy.

But questions have surfaced regarding DeepSeek’s low-cost assertion for model development. The widely reported $6 million figure for model production excluded costs related to prior research and ablation experiments on architectures, algorithms, or data. Stated plainly, the cost estimate omits all R&D funds for the model’s architecture, algorithms, data acquisition, graphics processing units, and test runs. DeepSeek’s overall cost is likely much higher than the reported number.

AI hyperscalers and mega cap tech companies are undeterred by DeepSeek’s arrival. Amazon, Microsoft, Alphabet, and Meta platforms spent $230 billion on AI capital expenditures over the past 12 months. The four companies are expected to spend $320 billion on AI and data centers this year. Despite the DeepSeek induced AI turmoil, big tech companies have reaffirmed their plans to keep spending on AI infrastructure to train new advanced models and develop the next generation technology.

If, and it’s a big if, open-source large language models like DeepSeek can be developed at far lower cost with greater effectiveness and a lower energy impact, that would benefit tech stocks and the broader economy, upholding the promise of AI. Efficiency improvements in models would increase AI consumption as additional use cases become more economical and are discovered at a faster rate.

Productivity gains from greater AI adoption could prevent the final brick in the wall — an economic growth scare — from becoming a full-blown recession.

Growth Fears Center Stage, Recession in the Wings?

Investors already on edge because of Trump administration policy uncertainty, the likelihood of fewer Fed rate cuts, still rising prices, and growing AI questions, are now facing the threat of a slowing US economy.

The economy experienced several 3% real growth quarters last year, but it’s slowing now. Softening economic data releases over the final two weeks of February have investors panicked. The Commerce Department reported that retail sales fell by 0.9% in January. Walmart beat earnings and revenues for its fiscal fourth quarter, but warned investors that profit growth will slow this year. Walmart earnings are a good barometer for consumer spending.

Both the University of Michigan Consumer Sentiment Index and the Conference Board Consumer Confidence Index plummeted in February. The Bureau of Economic Analysis noted that personal spending declined by 0.2% in January.2 Housing data has been particularly sloppy lately. For example, pending home sales dropped 4.6% from December to the lowest level since the National Association of Realtors began tracking the data in 2001.3

The S&P Global US Services PMI fell to 49.7 in February from 52.9 in the previous month, sharply below expectations. This was the first contraction in the services sector in over two years.? Not surprisingly, given all the bad news, jobless claims have been rising. Initial filings for unemployment benefits hit their highest level of the year, reaching 242,000, up 22,000 from the previous week and surpassing estimates for 225,000.?

An economic growth scare is not the same thing as a recession. And the economic environment remains respectable. US real GDP is likely to expand in the first quarter. Although jobless claims have increased, they continue to suggest a resilient labor market.

Tight credit spreads point to confidence in the lending market. S&P 500 companies just finished a strong fourth quarter earnings season and are forecast to grow earnings by a robust 12% this year.? Durable-goods orders leapt unexpectedly by 3.1% in January.

The S&P Global US Manufacturing PMI rose to 51.6 in February, from 51.2 in January, above market expectations. It was the highest reading since June 2024, signaling a continued recovery in the manufacturing sector.? The recent New York and Philadelphia Fed surveys from February beat expectations and signaled further expansion.?

Investors should be wary of an economic growth scare. What happens next with jobless claims, credit spreads, consumer spending, and corporate profits will determine whether the scare turns into something worse, like recession. But, for now, the data supports the view that although the economy is cooling, it’s not likely headed for recession this year.

Skepticism: Good for Markets and Investors

Following two consecutive years of exceptional stock market performance and a post-election rally, some healthy investor skepticism is warranted. Stretched valuations, tight credit spreads, and modest measures of market volatility make it critical that investors identify and evaluate the probable risks that could disrupt the maturing bull market.

Since Inauguration Day on January 20, there have been an increasing number of bricks at hand for investors to build a monstrous wall of worry. Fast and furious Trump administration policy actions may have unintended consequences, and the risk of a policy mistake is climbing. Sticky inflation and a timid Fed produce additional risks. A multiyear AI bubble potentially inflated on the false pretense of massive capital expenditures could be devastating for the market, especially the beloved Mag-7. And the greatest risk to the bull market might be a scary mutation of a logical economic growth scare into an unnecessary recession.

The departure from euphoric sentiment in early December is prudent.? As uncomfortable as it may be, investors should embrace the anxiety. It’s healthy. Shaking out the weak hands will provide the market more room to grow. Markets don’t rise on euphoria; they scale the wall of worry.

None of these risks in isolation are enough to wrestle the bull market to its knees. The totality of fiscal, monetary, trade, and regulatory policies will determine the impact on the economy, earnings, inflation, and interest rates.

For now, the economy is expanding, not contracting. Inflation is moderating. The Fed is more likely to ease monetary policy than tighten it. Earnings and profit margins are impressive and broadening beyond just tech companies. The labor market is resilient. The consumer is still in reasonable shape. And, rightly or wrongly, the Trump administration uses the economy and stock market as barometers for its success. They won’t purposefully harm the economy or the bull market.

Current market dynamics require investors to remain on high alert and differentiate between signal and noise. And that means continuing to climb the wall of worry in 2025.

Glossary

Consumer Price Index (CPI) A family of indexes that measure price change experienced by urban consumers. Specifically, the CPI measures the average change in price over time of a market basket of consumer goods and services. The market basket includes everything from food items to automobiles to rent.

Inflation An overall increase in the price of an economy’s goods and services during a given period, translating to a loss in purchasing power per unit of currency. Inflation generally occurs when growth of the money supply outpaces growth of the economy. Central banks attempt to limit inflation, and avoid deflation, in order to keep the economy running smoothly.

?PCE Inflation/Personal Consumption Expenditures (PCE) Index

Personal Consumption Expenditures (PCE) is an inflation index that measures prices changes in consumer goods and services. It excludes food and energy to remove the volatility caused by movements in these product prices to reveal underlying inflation trends. It is maintained by the Bureau of Economic Analysis of the US Department of Commerce and considered the Federal Reserve’s preferred inflation measure.

Footnotes

1 Policy Outlook, Strategas Research Partners, January 17, 2025.

2 Personal Income and Outlays, January 2025,” Bureau of Economic Analysis, February 28, 2025

3 National Association of Realtors, February 27, 2025.

? S&P Global Flash US PMI?, February 27, 2025.

? News Release, Bureau of Labor Statistics, February 27, 2025.

? Bloomberg Finance, L.P., February 27, 2025.

? S&P Global Flash US PMI?, February 27, 2025.

Disclosure:

?Important Risk Information

The views expressed in this material are the views of Michael Arone through the period ended March 4, 2025, and are subject to change based on market and other conditions. This document contains certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance and actual results or developments may differ materially from those projected.

Investing involves risk including the risk of loss of principal.

The whole or any part of this work may not be reproduced, copied or transmitted or any of its contents disclosed to third parties without SSGA’s express written consent.

All information is from SSGA unless otherwise noted and has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. There is no representation or warranty as to the current accuracy, reliability or completeness of, nor liability for, decisions based on such information and it should not be relied on as such.

Frequent trading of ETFs could significantly increase commissions and other costs such that they may offset any savings from low fees or costs.

Equity securities may fluctuate in value and can decline significantly in response to the activities of individual companies and general market and economic conditions.

Commodities and commodity-index linked securities may be affected by changes in overall market movements, changes in interest rates, and other factors such as weather, disease, embargoes, or political and regulatory developments, as well as trading activity of speculators and arbitrageurs in the underlying commodities.

Diversification does not ensure a profit or guarantee against loss.