What Did We See?
- U.S. Large Cap stocks, or the S&P 500 index, had a total return of 2.3% in Q3 and are up 12.7% year to date.
- Developed international markets (MSCI EAFE) gained roughly 1%, led by Japan, while Europe lagged.
- Emerging Markets were flat after Q2’s 24% surge but remain up 23.7% for the year.
- Small caps (Russell 2000) fell roughly 7%, and value beat growth as yields rose.
- The U.S. Aggregate bond index fell 3.5%, though starting yields are now the most attractive in years.
- Commodities rose 16% (Bloomberg Commodity Index), with Brent crude back above $100.
Where Do We Stand?
- The Fed hiked in September, the first in about three years, and there is likely more to come.
- The economy is stronger than the headline GDP number, and core inflation is cooling.
- Job growth is slow, but unemployment has fallen this year as the supply of workers shrinks.
- Earnings remain the engine, and valuations have come down meaningfully as profits outran prices.
- The midterms will bring louder headlines, but politics is a poor guide for portfolios.
Last quarter’s lesson was that being rightfully defensive in Q1 didn’t help you in Q2. Q3 changed the picture all over again. Oil, which collapsed 38% in Q2, climbed back above $100 in Q3. A Fed that had just recently leaned its guidance toward cuts started actually hiking, and bonds lost money. Stocks, however, still inched higher with the help of good earnings. That’s three quarters and three very different markets. A very difficult landscape to trade around. Which is why successful investors build a portfolio that can live through it.
The Bond Market Had It Right
For almost two years, the bond market has been telling the Fed it had the wrong policy. From September 2024 to December 2025, the Fed cut rates by 175 basis points, yet the 10-year Treasury yield rose nearly 100 basis points over the same stretch. The only comparable cycle in the last 50+ years was in 1980, and the Fed reversed course after just 119 days.
In September the Fed raised rates 25 bps, to a range of 3.75% – 4.00%, and its statement called inflation “elevated” and not just due to energy costs. Headline CPI is 3.4%, while Core inflation is a calmer 2.4%. One-and-done hikes have been rare since the 1990s, so there is likely more to come. Still, rising rates and rising stocks have coexisted many times when the economy and earnings are healthy, and Q3 was a good example.
Better Than the Headline
Q2 GDP grew only 1.5%, but the details are much better than the headline. Net exports (likely due to semiconductor imports) and inventories subtracted 1.7 points, while final sales to private domestic purchasers grew 3.9%, the best since early 2023. Core CPI is running just 1.6% annualized over the last three months. The data seems better than the headlines would have one feel.
Fewer Workers, Not Fewer Jobs
July showed a loss of 23,000 jobs, yet unemployment has dropped from 4.4% to 4.1% this year. The youngest baby boomers are turning 62 and immigration has slowed sharply, so the economy needs fewer new jobs to stay in balance. August then came in strong at 162,000.
Earnings: Strong, But Narrowing
The earnings numbers have been impressive. About 86% of S&P 500 companies beat Q2 estimates, and profits are growing at their fastest pace since 2021. There are some cracks, though. Only 122 companies are seeing rising forward earnings, compared with 163 in the 2020 recovery, and corporate profits are near a record 14% of GDP. When results have been this strong for this long, merely good ones can start to disappoint.
There is some good news on valuations. Earnings grew faster than prices, so the S&P 500 now trades at about 19 times forward earnings, four points lower than a year ago. That’s still above its 25-year average of about 17, but it’s a healthier footing than where we stood in July.
The Midterms
The November midterms are merely weeks away so the headlines will get increasingly louder. Over the past century, markets have done well under nearly every political combination, including divided government, and it is routine for the president’s party to lose ground in a midterm. Tariffs, tax policy and debt fights all rattled markets this past year, and markets recovered each time. Vote your conscience, but don’t trade your portfolio on it.
Our Positioning
This was the kind of quarter our ballast is built for, with an energy shock and rising yields. Our continued position in gold held its weight this past quarter, while higher levels of cash helped mitigate the bond shock a bit. It didn’t solve all the problems but it certainly helped smooth the shocks. That’s the nature of insurance: it earns its keep when you need it. These are interesting and potentially volatile times that call for diversification, balance and patience in one’s portfolios.
In Conclusion
We’ve seen fear and euphoria this year, and now a rate shock, and the plan hasn’t needed to change. That’s by design. We remain diversified, rules-based, and focused on what the data says rather than what the last six weeks felt like. As always, we wish you well for the coming quarter, and please reach out with any questions about your accounts or your broader financial picture.
If you have any questions or have experienced any changes in your financial situation please do not hesitate to Contact Me.
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