Q3 2025 Investment Commentary

Welcome to our latest investment commentary. This edition will cover the third quarter of 2025 and the outlook for the remainder of the year.

Q3 REVIEW

We are pleased to report that the strong returns seen at the start of the year have continued into the third quarter, resulting in very good relative performance in 2025. Q3 saw a strong rally in equities across the globe after a volatile Q2. Index returns across many different regions in developed and developing markets reflected the strength of the rally and an increase in investor confidence as the tariffs story calmed down from its Q2 peak.

After a long wait and considerable political pressure, in September Fed Chair Powell announced a 25 basis point interest rate cut, marking the first reduction since December 2024. He explained that the decision was driven by a weakening labour market rather than progress on inflation. Powell emphasised that he would rely on firm economic data to guide future moves, noting a slowdown in new job openings. He remains in a challenging position as inflation continues to run above target, while pressure mounts to ease policy in order to support employment and respond to President Trump’s demands. Inflation in the United States remains above the 2% goal and has been gradually rising since Liberation Day. During Q3, data showed that prices for manufacturers were increasing at a faster rate than for consumers, indicating that companies were absorbing the additional tariff costs rather than passing them on to consumers. This was a concern, as eroded profit margins could lead to falling earnings and, consequently, lower share prices.

Following the rate cut, the Fed base rate stands at 4.5%, which is still high relative to other major economies. The U.S. is the epicentre of the tariffs, which explains its higher inflation and interest rates. The ECB has been well ahead of most major economies, consistently cutting since June 2024 from 4.25% to 2.15% in an effort to stimulate the Euro area. This has benefited them as economic growth forecasts look strong for Europe and EU inflation stands at 2.2%. The Bank of England held rates during the quarter at 4%. We sold out of our Euro government bond holdings last quarter as most of the expected rate cuts had already been realised. We maintain our UK and U.S. government holdings as there is still room for cuts if economic conditions worsen, which would likely lead to bond price rallies. Interest rate cut expectations remain volatile and now the market has priced in a 94% chance of a Fed cut later this month.

Tariff headlines eased this quarter compared with Q2, allowing markets to rally more smoothly. The calm was short-lived, however, as President Trump has again recently escalated trade tensions with China. The full impact of the new tariffs is still uncertain due to lagging economic data. Many U.S. companies accelerated imports earlier in the year and continue to draw down inventories that were purchased before tariffs took effect. This has distorted key indicators such as inflation and growth, fuelling concerns about the broader effects of protectionism. The U.S. economy appeared resilient, with Q2 GDP rising 3.3% after contracting 0.5% in Q1, though these figures too are influenced by tariff front running.

Given this macro backdrop in the U.S., returns were led by other regions. The S&P 500 still had a strong quarter, returning 10.2% (GBP), but returns in several other regions were even stronger, helping our relative performance. The Hang Seng returned 15.5% (GBP), and Gold returned 17.1% (GBP), both of which Carrington portfolios are heavily overweight in. The funds we hold in this space were able to outperform with Federated Hermes China returning 26% (GBP) and Hang Seng Tech index 25% (GBP) and VanEck Gold miners returned 49% (GBP).

Asia remains a large overweight for us, as valuations are still attractive and company balance sheets remain strong. Asia has been overlooked in recent years due to the dominance of U.S. exceptionalism, but as the U.S. outlook is increasingly questioned, capital has begun flowing into Asia, leading to its outperformance. Gold remains an overweight position despite some profit-taking in Q2. It continues to climb higher due to rising long-term inflation expectations, falling interest rates, and ongoing geopolitical uncertainty which do not show much sign of reversing.

Given the strong Q3 returns of the S&P 500, U.S. price-to-earnings multiples are reaching historically high levels, with the cyclically adjusted PE ratio at levels not seen since the dot-com bubble. The Magnificent 7 now account for roughly 40% of the total S&P 500 market capitalisation, raising concentration and systemic risk. There is increasing interdependence among these companies with many now acting as one another’s suppliers, customers, and investors. This has inflated revenue figures and also heightened vulnerability to a sentiment shift. There is also rising concern about the longevity of AI Capex, which is yet to deliver consistent profits amid fierce competition. Currently, we have hedge funds in our core models that are able to profit from a decline in AI stock momentum.

OUTLOOK

Geopolitics

Tensions in Europe have escalated as Trump made another U-turn. After saying during the presidential campaign that he could end the Russia Ukraine war on his first day in office, he has now given Ukraine the green light to strike Russia and reclaim lost territory. This marks a sharp reversal after long advocating peace, as he now says Ukraine should fight back and use U.S. weapons. Despite the conflict escalating, European equities have not been significantly impacted by the news and the outlook remains strong.

Trump has been active in the Middle East, successfully brokering a peace agreement between Israel and Palestine that brought an end to the conflict. The deal has been positively received by markets, as the reduction in geopolitical risk has eased investor concerns in the region. As a result, oil prices have fallen by around 10% since the announcement, which should help relieve global inflationary pressures.

UK

Rumours continue to emerge from within the UK government regarding what is in Rachel Reeves’ budget next month. So far, the gilt market has not responded well to Reeves’ proposed plans and continues to drive wealth out of the UK. The bond market remains a key reflection of the budget proposals and will be crucial for financing Labour’s policies.

Despite this, the UK stock market has had a good quarter. It enjoyed an exceptionally strong Q2 before cooling slightly, but the FTSE 100 still ended the quarter up 7%. Investors continue to see value in the UK stock market, and company balance sheets remain strong despite the challenges in the gilt market.

In the Carrington models, we remain overweight in the UK, which has continued to perform strongly this year. Year to date, the FTSE 100 has returned 19% compared to the S&P 500’s 6% (GBP). We remain comfortable with our UK overweight position, as it stands to benefit from capital rotating out of the US where valuations remain stretched, rather than from a bullish view on the macroeconomic outlook of the UK economy.

USA

Despite a good quarter of S&P 500 performance, the theme of fading U.S. dominance has continued to build this quarter. Concerns over U.S. fiscal health  persist, as national debt continues to rise alongside President Trump’s “One Big Beautiful Bill.” U.S. However, treasuries have rallied recently amid signs of economic softening, with markets anticipating aggressive rate cuts should the labour market weaken meaningfully. This remains a useful hedge in our portfolios if U.S. growth slows.

Although Powell attributed the recent rate cut to a weakening labour market, data still shows a tight environment, with unemployment below historical averages. Meanwhile, asset prices continue to climb, the S&P 500, U.S. house prices, Bitcoin, gold, money supply, and national debt have all reached new all-time highs. Inflation remains elevated at 3.1% and has not touched the Fed’s 2% target since February 2021, and now the Fed is cutting rates. Given these imbalances and political uncertainty under Trump, we continue to maintain an underweight position in U.S. equities.

Asia

Chinese equities were the standout performers over the quarter, supported by renewed confidence in the domestic economy. Performance has been strong over the past year following the government’s initial stimulus measures. China continues to make meaningful progress in AI technology without the excessive capital expenditure seen in the U.S. Chinese technology stocks still trade at a fraction of U.S. valuations, offering a compelling risk-reward profile. We remain constructive on China given its solid economic position, low inflation, and healthy growth outlook. The People’s Bank of China also retains scope to cut rates further if needed, though policymakers have held back to avoid currency distortions while U.S. rates remain elevated. Relations with the U.S. have improved but are susceptible to changes with one social media post by Trump. Despite this, China has managed to increase total exports despite the U.S. trade tension by strengthening ties with neighbouring countries.

Across broader Asia, the outlook remains positive. Within our Asia allocation, we focus on undervalued developing economies with strong growth potential and attractive valuations. We continue to underweight regions showing excessive momentum and expensive pricing such as India, Japan, and Taiwan. This selective approach has delivered strong results, and we maintain our positioning into Q4.

Strategy

Some points to note around our thinking moving forwards, which generally follow the comments in our previous updates:

• We are now underweight in U.S. equity, having already been underweight going into Liberation Day. We captured the rebound after increasing exposure near the lows but have since trimmed positions. With the S&P 500 reaching new all time highs, valuations once again appear stretched, and we remain vigilant on incoming economic data.
• Our largest equity exposure remains in the U.S., but the areas we hold outside the U.S. have been key contributors. Overweight positions in the UK and Europe have supported performance, and we added further to our European exposure by including the Ranmore fund. Sentiment in Europe continues to improve.
• Government bond yields were volatile over the quarter as inflation expectations rose alongside recession fears, triggering a steepening yield curve. However, when weak labour market data came through, it was encouraging to see treasuries and the dollar rally, offering downside protection via a negative correlation to equity.
• Credit spreads have tightened to historically low levels. We continue to monitor defaults closely, especially as the full impact of tariffs on company balance sheets remains unclear but defaults remain. We trimmed our exposure in Q2 and intend to keep it at current levels.
• Commodities have historically shown a negative correlation to equities, helping diversify the portfolio. We continue to hold strategies with exposure to precious metals miners which have performed very strongly and still have a strong outlook whilst providing a hedge against a potentially worsening tariff sentiment.
• Our UK exposure remains focused on large international FTSE businesses that typically perform well in a high rate environment, supported by a UK small cap fund targeting niche opportunities to enhance returns.
• We continue to hold a meaningful allocation to Asian equities, where valuations remain attractive and inflation pressures are relatively contained. Many Asian countries have been strengthening regional trade links while the U.S. takes a more protectionist stance.

Summary

We are pleased with the ongoing strong performance across all portfolios and continue to monitor the rapidly changing environment. The volatility during this year has proven the robustness of the portfolios and ability to limit downside and capture meaningful upside during rallies we saw this quarter.

We will keep seeking new opportunities for our portfolios while navigating the current environment as best we can.

CHANGES MADE

We made some changes during the last quarter. A full account of the changes can be found below:

Lastly, if you joined us for our latest Market Insights webinar , thank you — we hope you enjoyed the session and found it both interesting and informative. For those who couldn’t make it, you can catch up by watching the recording 👉🏼 HERE or by clicking the image below. You’ll also find a short summary of the key themes we discussed below:-

• Market Overview
  Global markets delivered a strong quarter as confidence returned following a volatile Q2. The recovery was supported by improving sentiment and renewed risk appetite across most asset classes.
• Interest Rates and Policy
  The Federal Reserve began cutting interest rates, signalling the start of a new phase in the monetary cycle. However, ongoing uncertainty around U.S. policy and tariffs continued to influence global market dynamics.
• Portfolio Performance and Positioning
  All Carrington portfolios achieved solid positive returns across all risk levels. The investment stance remains tilted towards Asia, Emerging Markets, and Europe, where valuations are more attractive compared to the U.S.
• Asset Allocation Themes
  Gold remains overweight, continuing to perform well as a diversifier. Meanwhile, discussions on elevated U.S. equity valuations and the wider implications of AI investment remain central to positioning decisions.
• Emerging Opportunities
  In the UK, the FCA has finally approved that Bitcoin can be held by individual investors, marking an important development in the evolution of the digital asset landscape.

We hope you find this review informative, and we look forward to hearing from you if you have any questions.

 

 

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