Key Questions: What Are Nine Things to Watch as We Begin the Ninth Month of the Year?

Earlier this month, as marked by the first Monday in September, we celebrated Labor Day, a national holiday intended to pay tribute to the contributions and achievements of American workers. September also marks different types of markets.

The beginning of September is an interesting time of the year from a market and economic perspective. Historically, September has been one of two most challenging months of the year for stock market performance. Furthermore, 2025 has been a challenging year in terms of market volatility and the confluence of events that investors have faced. As we navigated through the beginning two-thirds of the year, it’s been a tale of two markets.

The first four months of the year (January – April) brought considerable volatility as markets reacted to several of the new administration’s policies. Frequent changes in rhetoric regarding potential tariffs whipsawed markets, culminating with the significant stock market decline of nearly 20% and subsequent rebound in mid-April after Liberation Day announcements and then their reversals.

The second four months of the year (May – August) brought stability as uncertainty faded regarding tariffs and the economy. The stock market rallied in four consecutive months, rising nearly 30% from the early April lows. Primary contributors to the rally include stronger-than-expected corporate earnings, the passage of the One Big Beautiful Bill (OBBB) in July, some tariff/trade deal resolutions, artificial intelligence (AI) enthusiasm, and some easing in global geopolitical tensions.

On the other hand, the past four months showcased various risks and uncertainties. Primary examples include elevated stock market valuations, slowing labor market trends, persistent inflation, a large federal deficit, and threats to the Federal Reserve’s independence. All the while, the Fed has kept interest rates constant during the year thus far, with a potential cut on the horizon this month at the September 17 meeting.

So, where are we now, and what are the nine things we are watching as we begin the ninth month of the year?

1. Jobs/Employment: will the no hire/no fire environment persist? The labor market is slowing — how far and how fast is the question.

   Although the unemployment rate has remained stable throughout the year and the number of layoffs have been limited to certain sectors, the August non-farm payroll employment report indicated only 22,000 new jobs were created in the month. More concerning, the revisions for prior months were significantly less than previously reported.¹

   Job Openings in July fell to their lowest level in the past ten months at 7.18 million; and, except for September 2024, they fell to their lowest level since the post-pandemic peak of 12.1 million in March 2022.²

2. Inflation Expectations: will they continue to recede?

   According to the University of Michigan, one-year forward inflation expectations have declined from prior readings as concerns over tariffs have ebbed, although they remain elevated relative to pre-pandemic levels. Expectations play an important role in Federal Reserve policy, as expectations drive consumer behavior.

3. Federal Reserve Policy (and politics): Will the Federal Reserve (Fed) cut interest rates, and if so, by how much?

   Monetary policy is heavily influenced by the Fed’s “dual mandate” of maximum employment and stable prices. The aforementioned employment data and inflation expectations are important, along with actual inflation readings. The Fed’s preferred measure of inflation — Core Personal Consumption Expenditures (PCE) inflation — was 2.9% for July, the third month in a row of incremental increases and still well above the Fed’s 2.0% target.³

   The Fed must now calibrate potential interest rate cuts against a bifurcated dilemma of a softening labor market (favoring rate cuts) versus potential persistent/increasing inflation (favoring no/fewer rate cuts). In our view, a September rate cut of 25 basis points (bps) (0.25%) seems highly likely. By the end of 2026, market participants expect the fed funds rate to approach 3.00%, much lower than its current target range of 4.25% to 4.50%. We believe additional rate cuts may be slower to materialize, unless the labor market deteriorates rapidly.

   In addition, the composition of the Fed is likely to change in the coming months/quarters as Jerome Powell’s term as Fed Chair may be ending in 2026 and pressure to replace other Fed governors intensifies. A politicized Fed has traditionally led to a steeper Treasury curve, with long rates rising relative to short rates due to inflation and uncertainty concerns. As an example, the spread between the 5-year Treasury and the 30-year Treasury was recently at 123 bps, its highest level since 2021.⁴

4. Credit Spreads (sentiment) — how low can spreads go?

   Spreads continue to grind tighter as heavy demand continues to chase limited supply. Despite tight spreads, all-in absolute yields remain high, an enticing situation for credit investors. Narrow credit spreads also indicate less market risk and relative optimism in the economy.

5. Corporate Earnings/Margins (Cash Flow from Operations): Can they be sustained?

   A large technology company (Nvidia) reported tepid earnings two weeks ago, which has likely set the S&P 500 up for a shallow short-term pullback. On balance, corporate earnings remain strong, as Q2:2025 earnings rose nearly 12% year over year versus initial expectations of approximately 5% growth — strong outperformance relative to expectations.⁵ The intermediate- to long-term outlook for the stock market will remain favorable as long as earnings growth remains on track.

6. Artificial Intelligence (AI)-related Capital Spending: Can it continue? Large amounts of spending have boosted domestic economic growth, with just a handful of companies driving the bulk of the investment.

   Capital expenditure spending by a small group of “HyperScaler” companies has reached $230 billion in 2025 and projections are anticipated to increase, according to JPMorgan. Looking out longer-term, Jensen Huang, the CEO of NVIDIA, remarked, “We [expect to] see $3 trillion to $4 trillion in annual AI infrastructure spending by the end of the decade.” Such spending would be a remarkable boost to overall economic activity, but such estimates could prove overly optimistic.

7. Tariffs: It takes time for tariffs to work through the economy. Companies will likely seek to pass increased costs through to customers as much as possible.

   The legitimacy of President Trump’s tariff polices are currently being challenged in the courts and the outcome remains unknown. Several trade agreements with countries have been executed on a preliminary basis and the overall average effective tariff rate has been reduced since April; however, the potential average rate is still expected to be significantly higher than pre-2025 levels in place since the 1970s.

   The full effect of tariffs on inflation has yet to be seen, although most businesses plan to pass through some/all of the higher costs to consumers, according to Partners Group.

8. U.S. dollar: Will weakness resume? If the Fed begins a new rate cutting cycle, the U.S. dollar may continue to weaken further versus the global currency basket.

   The U.S. dollar has traded within a range of 100 to 110 since the beginning of 2023.⁶ Year to date as of August 29, 2025, the US Dollar has declined approximately 10% to a level near 98. If the Fed resumes its second interest rate-cutting cycle in 12 months, the U.S. dollar may weaken further.

9. Diversification: Asset classes such as international stocks and real assets have performed well this year. Diversification has worked in 2025. Will it continue?

   Year to date through August 29, 2025, U.S. stocks (S&P 500) are up 10.8%, international stocks (MSCI EAFE) are up 22.8%, U.S. bonds (Bloomberg U.S. Aggregate Bond) are up 5.0%, and gold is up by more than 30.0%.⁶ A portfolio incorporating broad diversification has participated well in the multi-asset class rally.

Bottom Line — How to Invest Now.

The trend remains higher as the S&P 500 continues to hug its 65-day-high line. S&P 500 forward earnings estimates have continued to improve since bottoming in May. If earnings continue to power higher, stocks will have a tailwind despite high valuations. Complacency seems high, while risks seem low. Significant growth appears priced into risk assets. The S&P 500 is trading with a price/earnings (P/E) ratio of approximately 22x, an elevated ratio relative to history. Credit spreads are also near all-time tights, signifying optimism. A rate-cutting cycle in 2025 by the Fed may also be a tailwind for markets.

We recently stated that it was time to think about rebalancing from over-extended risk assets; we think this still makes sense as the economy slows, the path for inflation remains uncertain, and valuations are elevated. Investors should remain “Neutral to Risk,” be fully diversified (own international and real assets), and should maintain sufficient liquidity to ensure cash needs can be met and/or dry powder can be preserved to deploy opportunistically if/when dislocations emerge (VIX at levels near 27 and 35).

For more information, please contact your advisor.