What’s up Graham, it’s guys here :-)

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Now, back to today's newsletter:

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In the late 1970s, the United States was going through various economic and geopolitical strains. There was rising unemployment, slow economic growth, and an energy crisis. For the average American, this meant sharply rising prices on everything from groceries to gasoline — making it harder to buy everyday goods. It was called the period of Great Inflation, and for good reason.

This is when the then Federal Reserve Chairman Paul Volcker made a move to combat runaway inflation. The Fed gradually raised interest rates to nearly 20% to reduce inflation. While this led to a painful recession, it also restored the Fed’s reputation for doing whatever it took to tame price surges.

Fast-forward to today; once again, the Federal Reserve stands at a crossroads. Jerome Powell has signaled that rates will stay higher for longer, potentially clashing with President Trump, whose policies favor aggressive economic growth at almost any cost.

But there’s more to this story than a simple standoff between the White House and the Fed. Inflation is still stubbornly outpacing wage growth, leaving consumers feeling squeezed. Meanwhile, an AI-driven stock market rally has pushed valuations sky-high, sparking whispers of an impending correction. Real estate is still climbing — even with mortgage rates above 7%, and affordability growing more elusive by the day. This is why understanding why the Fed is holding firm on rates, how Trump’s return could change the rules of the game, and what this all means for your investments is more important than ever.

Why the Fed Refuses to Cut Rates

The Federal Reserve’s decision to keep rates steady comes down to just one major issue — inflation. Even though prices have started cooling from their peak in 2022, inflation is still higher than wage growth. This means the average worker is effectively losing purchasing power. In December 2024, overall inflation rose from 2.7% to 2.9%, driven mainly by a surge in grocery prices, with egg prices up 37% and gasoline costs climbing over 4%. Housing costs also increased by over 4% from the previous year, pushing the overall inflation rate higher.

However, core inflation — which excludes volatile categories like food and energy — dropped slightly from 3.3% to 3.2%, providing some optimism that progress is being made. But despite this, wages have only risen by 1% over the past year. In other words, even though inflation is slowing down, it’s still more than wage growth, keeping financial pressure on everyday Americans.

This is why the Fed is hesitant to cut rates. Powell has clarified that interest rates will stay the same unless inflation drops closer to 2%. The fear is that cutting rates too soon could lead to another surge in prices, worsening the economy. But now that Trump is back in office, his policies could introduce new economic factors that could shake up the financial system.

Trumponomics: The Biggest Changes to Expect

With Trump returning to the White House, he has major plans to reshape the economy. One of the most notable changes is the push to make the 2017 tax cuts permanent. This means the top tax bracket would remain at 37% instead of reverting to the previous 39.6%, and tax brackets would continue adjusting for inflation.

There’s also a proposal to lower the corporate tax rate from 20% to 15%, making it even lower than its 2016 level of 35%. While this could boost corporate profits and stock market growth, it could also lead to government budget deficits if not balanced out with spending cuts or revenue increases. Apart from this, the Trump cabinet has a few more changes planned. Let’s take a look at some of these:

1. Import Tariffs: Another significant change is in the form of import tariffs, designed to encourage more domestic production. The logic behind this policy is that it would boost American manufacturing and create more jobs, while the revenue from tariffs would offset tax cuts. However, critics argue that tariffs lead to higher consumer prices and can spark retaliatory measures from other countries, ultimately harming U.S. businesses. If a trade war escalates, the stock market could take a hit, and economic growth could slow.
2. Reduction in taxes on certain income: There are also new proposals aimed at reducing taxes on certain types of income. One proposal suggests exempting tipped wages from federal tax, which could help service industry workers take home more income. However, without strict regulations, this policy could easily be abused by employers who could underreport wages. Another proposal would eliminate taxes on Social Security income, which could provide retirees with more discretionary income but may also further strain the already underfunded Social Security system.
3. Eliminating SALT Cap deductions: One controversial idea is to raise or eliminate the SALT cap deduction, which limits the amount of state and local taxes that can be deducted from federal taxes. This cap, set at $10,000, primarily affects homeowners in high-tax states like California and New York.
4. Eliminating Clean Energy Tax Credits: Lastly, the administration is looking to eliminate clean energy tax credits, meaning tax incentives for electric vehicles and renewable energy would likely be scrapped. This could slow down the adoption of green technology but may also lead to cheaper gas-powered vehicles as automakers shift focus.

While these proposals are ambitious, it’s unlikely that all of them will pass in their current form. Realistically, Congress will water down or modify many of these policies before they become law. However, the financial markets are already reacting to these potential changes, and the coming months will determine which ones actually move forward.

Stock Market Outlook: Is a Correction on the Horizon?

After a record-breaking 2024, the stock market is in uncharted territory. The S&P 500 surged 23%, marking its second consecutive year of massive gains. However, there’s still a lingering problem — only 28% of the stocks within the S&P 500 are beating the index. Nearly all the market gains have come from just seven companies: Google, Apple, Amazon, Meta, Microsoft, Nvidia, and Tesla. This level of market concentration hasn’t been seen since the 1999 dot-com bubble, leading some experts to worry that the stock market may be overheated.

Despite these concerns, many Wall Street firms remain bullish on 2025. Goldman Sachs predicts the S&P 500 will hit 6,500 by year-end, representing a 10% increase from current levels. Other firms, like JP Morgan and Morgan Stanley, have made similar predictions, while Oppenheimer is even more optimistic, forecasting a 20% gain. Historically, when the market rises for two consecutive years, the third year has a 71% chance of being positive. While this doesn’t guarantee gains, the overall trend suggests that some investors remain confident.

Real Estate: Will Home Prices Keep Rising?

Despite mortgage rates exceeding 7%, home prices continued climbing in 2024. Cities like Miami and Chicago saw the most substantial appreciation, with home prices increasing up to 5.8%. Meanwhile, states like Washington and Hawaii experienced slight declines, with prices dropping between 2 to 3.5%. Looking ahead, experts predict that home values will rise another 3.8% in 2025, even though wages are growing at a slower pace.

Due to this, one trend to watch is the shift toward smaller homes. With increasing home prices and a slowdown in construction, the demand for starter homes and compact properties is also increasing. Over the next five years, it’s expected that home prices will continue climbing slightly above the inflation rate, making it challenging for people looking for affordable homes.

My Thoughts

Historically, markets trend upward over time. But with so much uncertainty, it’s important to stay financially flexible. Inflation is still a concern, interest rates will likely remain elevated, and major policy changes could introduce new risks. The best approach is to continue investing consistently, avoid unnecessary risks, and keep an emergency fund ready. While no one knows exactly what will happen next, history has shown that staying invested and focusing on long-term growth remains the best strategy for building wealth. And that’s what I’m doing.
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That's it for this week. I hope you enjoyed this article. Let me know your thoughts by responding to this email - I read every single comment :)

Stay safe, stay invested and I will see you next week – Graham Stephan.

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