There’s a longstanding adage in financial markets that equity investors should “sell in May and go away,” based on the assumption that summer months tend to bring unwelcome volatility and weaker returns. However, data since 1996 challenges this notion, with June and July typically delivering positive performance. This year has been no exception. In fact, 2025 has seen a robust rally in global equities that extended through August – usually a seasonally weak month. The catalyst for this rally was financial market volatility, which pressured President Trump into taking steps to de-escalate the trade war he initiated in April. Though his approach has at times been erratic, it has nonetheless helped calm investor nerves and support risk assets, which have seen further support from resilience in the business cycle and solid corporate earnings delivery.
This episode is part of a broader and increasingly urgent conversation about the politicisation of the US Federal Reserve (‘Fed’). There is mounting pressure on the Fed not only to cut interest rates to counteract the effects of rising government borrowing on the budget deficit, but also to align its policy framework more closely with the Trump administration’s economic agenda. A rate cut at the upcoming September 17th Federal Open Market Committee meeting is widely expected, but the real story lies in the potential for a more profound regime change at the Fed. Such a shift could usher in a new era of policy reflation, which markets have yet to fully price in, especially as the 2026 Midterm Elections approach.
With inflation remaining higher than the Fed would like and tariffs making the outlook for price stability uncertain, the Fed’s policy decisions are increasingly being guided by labour market dynamics. The August employment report, which included significant downward revisions to previous months’ reported jobs growth, revealed a worrying slowdown in hiring since Liberation Day. A stall in private sector job creation during an economic expansion is unusual and raises the risk of recession. While this is not the base case, it is a key risk that cannot be ignored. A pullback in corporate hiring, combined with reduced household spending power due to weaker labour demand, could create a negative feedback loop that undermines growth.
Despite these concerns, the current economic environment still shows signs of resilience. Wage growth and corporate profitability are supporting a trend-like economic expansion in the US. Capital expenditure on equipment, buoyed by the provisions of President Trump’s ‘One Big Beautiful Bill Act’, has been running at an impressive 15.3% rate in the first half of the year. This investment should help lay the groundwork for a cyclical upswing in 2026, although the recovery may be more ‘U-shaped’ than ‘V-shaped.’
Criticism of Trump’s political interference in the Fed’s operations is widespread, with many citing its potential to destabilise inflation expectations. While these concerns are on the face of it valid, they often miss a deeper point: the Fed’s current framework may be ill-suited to a world dominated by fiscal policy. A positive regime change – one that the overhauls the Fed’s mandate and tools – could be overdue. Most market participants are not positioned for such a shift, and political commentary on both sides often fails to grasp its implications.
To adapt to this new environment, several changes may be necessary. Real policy rates may need to remain sustainably negative through 2026. Further deregulation of the financial sector could be required to stimulate credit growth. A new round of quantitative easing, possibly targeting the mortgage-backed securities market, might be needed to revive the housing sector. Additionally, with trend growth likely to generate equilibrium inflation around 3%, the Fed’s 2% inflation target may need to be revised upward. Yield curve control could also become a necessary tool to manage long-term interest rate volatility, especially as bond markets grow increasingly sensitive to fiscal and monetary laxity.
These ideas are a long way from consensus, but they suggest further upside potential for equities, gold, and even cryptocurrencies over the next 6-12 months. At the same time, the US Dollar faces continued downside risk, particularly if the Fed pivots more aggressively than expected.
Recent bullish market behaviour resembles the period just before the Fed’s pivot in September last year, when it began to unwind some of the aggressive interest rate hikes it implemented during 2022-23. With a high probability of a 0.25% September rate cut priced into the market and 0.5% easing priced in by year-end, the biggest near-term risk to equities is strength in jobs or inflation data that causes the Fed to delay action. Such a scenario could trigger a volatility shock and a 5–10% correction in the S&P 500. However, given the likelihood of policy reflation ahead of the Midterms, any pullback would likely represent a buying opportunity.
Trump’s economic agenda has taken a distinctly interventionist turn, prompting some Republicans to label it “socialist.” To illustrate, the administration has taken a 10% stake in Intel Corp, approved Nvidia’s exports to China with a 15% revenue tax, facilitated the sale of United States Steel Corp in exchange for a “golden share,” pressured law firms to provide pro bono services, and used tariffs to force companies to reshore production. So far markets have not baulked at this approach, which seems to align more with the Chinese model of economic management. However, those investors worried about the further erosion of ‘US exceptionalism’ will be viewing the Trump administration’s ‘mission creep’ with mounting concern.
Turning to the Eurozone, while economic growth remains modest, supportive fiscal and monetary policy, with a game changing commitment from Germany to deliver EUR1trn in defence and infrastructure spending, provide a foundation for optimism. In France, political instability is increasing the risk that the fiscal consolidation required to address the nation’s budget deficit may not be delivered. Whilst we have seen some pressure on French equities, a broader spillover to Eurozone market appears limited.
In the UK, weak productivity and poor levels of participation in the labour market present policymakers with a significant challenge if they are to succeed in their goal of raising potential growth, which the Bank of England estimates is only a little over 1% - and this is further hampered by relatively high borrowing rates. Whilst we would concede that the current high level of inflation makes the near-term path for UK interest rates somewhat uncertain, there is every chance it falls back towards 2% during 2027. With the prospect of fiscal tightening at this Autumn’s Budget and interest rate policy still in restrictive territory, we feel that notwithstanding the current cautious rhetoric of Bank of England Officials, there are ground to expect a significant rate cutting cycle over the next 12 months. This should ease financial conditions and boost risk appetite, whilst also being positive for short-dated and intermediate maturity UK Gilts.
In Japan, incoming data confirms the underlying resilience of the economy. Whilst July industrial production fell last week, the outlook from the corporate sector suggests a decent rebound in the months ahead, and this is consistent with the recent improvement in corporate sentiment. Elsewhere, consumer sentiment reached six-month highs in August, helped by temporary government subsidies on utility bills reducing inflation. In overall terms, it looks like the current tariff-related drag on the Japanese economy should not prevent it from achieving above-trend growth, which should support domestically-driven corporate earnings.
Turning to China, after a solid first half of 2025, economic activity has been sluggish since mid-year. We would expect additional policy to support the government, which remains cautious about shifting its growth model toward consumption, as it fears short-term disruptions to the labour market and business cycle. Fiscal stimulus has largely focused on infrastructure, but recent industrial profit data has been encouraging, suggesting that there has been some easing of cutthroat competition in the manufacturing sector. Despite some froth in the market, we maintain a bullish outlook on emerging Asia over the next 6–12 months. Dollar weakness, regional monetary policy easing, and favourable growth differentials with the rest of the world support this view.
In sum, we are now in an economic and financial market environment where active policy choices drive economic outcomes rather than policy responding to economic developments. The interplay between fiscal dominance and central bank independence will be a defining theme for financial markets as the 2026 Midterms draw closer – and we expect this to play out positively.
The value of securities and the income from them can fall as well as rise. Past performance should not be seen as an indicator of future returns. All views expressed are those of the author and should not be considered a recommendation or solicitation to buy or sell any products or securities.
