As we approach 2025, the soaring U.S. stock market is raising both eyebrows and alarms. While many investors are celebrating robust gains, JPMorgan Asset Management's Chief Global Strategist, David Kelly, urges caution. According to Kelly, the market's meteoric rise may be overdone, presenting significant risks for those managing client wealth.
Kelly has built his reputation on measured analysis rather than doom-and-gloom predictions, but his recent perspective on U.S. equities reveals growing unease. Following a strong multi-year bull run, Kelly questions whether valuations are sustainable, especially given recent political and economic shifts.
What’s Driving the Market Surge?
This year’s rally gained momentum after Donald Trump secured the presidency, bolstered by enthusiasm over potential tax cuts and deregulation. Markets initially soared, with the S&P 500 achieving remarkable returns. For many investors, the “fear of missing out” became a driving force, pushing them to increase equity exposure despite elevated valuations.
“Rallies often overdo it, just as corrections tend to overshoot,” Kelly observed in a recent interview. He points out that market participants rarely pause at what could be considered “reasonable” levels.
Investor sentiment is being shaped by multiple forces:
Optimism Over Policy Changes: The promise of deregulation and corporate tax cuts energized the business community.
Capital Gains Concerns: For some, the potential tax implications of selling positions at a profit discouraged them from reducing exposure.
Fresh Enthusiasm Post-Election: Investors who supported Trump’s agenda viewed the election outcome as a reason to double down on equities.
Valuations That Raise Red Flags
Despite the excitement, Kelly expresses discomfort with the S&P 500’s elevated price-to-earnings (P/E) multiples. “The current levels of valuations make me feel a little queasy,” he admits. While high P/E ratios don’t guarantee an imminent market downturn, they often translate into lower long-term returns.
Historical data underscores this point. Investors who avoided U.S. equities during previous periods of high valuations often missed significant gains, but Kelly warns that past performance doesn’t ensure future results.
“People have become conditioned to expect double-digit annual returns,” Kelly said. “That’s simply not sustainable over the long term.” He notes that in four of the past six years, the S&P 500 has delivered returns exceeding 20%, a pace he deems unsustainable.
Lessons from the Late 1990s
Kelly draws parallels between today’s market and the late 1990s. Back then, U.S. stocks posted five consecutive years of gains exceeding 19%, culminating in the dot-com bubble. The subsequent collapse ushered in a “lost decade” for equities, exacerbated by the financial crisis.
“U.S. exceptionalism in markets reversed in the early 2000s, and we could be facing a similar scenario now,” Kelly explains. The combination of high valuations and heightened geopolitical risks could lead to a repeat of history.
Key Risks for Advisors to Watch
As advisors and RIAs, the challenge lies in navigating this complex landscape while safeguarding client portfolios. Kelly highlights several risks heading into 2025:
Economic Slowdown: While recent economic data has been strong, signs of a slowdown could emerge, particularly if tariffs or trade disputes escalate. Policy Uncertainty: Political developments, including potential changes to tax policy or regulatory frameworks, could disrupt markets.
Valuation Concerns: Elevated P/E ratios may limit future growth, increasing the likelihood of a correction.
Investor Overconfidence: A prolonged bull run has created unrealistic return expectations among many investors, setting the stage for disappointment.
A Balanced Approach for Wealth Advisors
Kelly advises a cautious, diversified approach for those managing client wealth. While he stops short of recommending a full-scale exit from equities, he suggests that advisors temper client expectations and focus on long-term objectives.
“The market shouldn’t be giving you 20% per year,” Kelly says. “If it does, you have to question how sustainable that is.”
He emphasizes the importance of balancing growth opportunities with risk management, particularly in today’s environment of elevated valuations. Diversification across asset classes and geographies can help mitigate the impact of potential market downturns.
The Role of Behavioral Finance
Understanding client psychology is also critical. Kelly notes that many investors feel compelled to remain fully invested, driven by a fear of missing out or reluctance to realize capital gains. Advisors play a key role in helping clients navigate these emotions and make rational decisions.
“There are things that prevent people from selling out, even when they’re worried about the market being high,” Kelly observes. “Advisors need to help clients overcome these behavioral biases.”
Looking Ahead
As 2025 approaches, Kelly remains cautiously optimistic about the global economy but is wary of U.S. equity valuations. For wealth advisors and RIAs, the message is clear: focus on fundamentals, manage expectations, and prioritize diversification.
While the market rally has delivered impressive returns, Kelly warns against complacency. “People assume that if they’re not invested in equities, they’re missing out,” he concludes. “But the truth is, long-term gains shouldn’t be that extraordinary. They should reflect the underlying growth of the economy.”
For advisors, the challenge lies in guiding clients through this uncertain period while staying true to their financial goals. By remaining vigilant and disciplined, advisors can help clients weather potential volatility and position themselves for long-term success.
