Navigating a tumultuous market: KBI Global Investors Q1 2025 commentary

• Investor preference has shifted from growth to value stocks, suggesting investors re-evaluated their risk exposure amid growing economic uncertainty.​

• US tariffs and trade threats are driving market volatility, shifting spending to international markets and away from the US.

• AI remains an important trend, but its intrinsic value as an investment area is in doubt.

Our Global strategy finished the quarter 1.9% ahead of the MSCI World Index, EAFE and Small caps were both 0.7% ahead, while Emerging Markets underperformed by 1.4%.

Market performance in Q1 2025:

The first quarter of 2025 was turbulent for equity markets, marked by policy shifts in the US and notable investor recalibrations. It’s certainly prudent to consider a strategic rotation in investment portfolios. This should involve shifting focus from large-cap growth stocks toward value-oriented equities in the US, while diversifying toward international markets.​

US equity markets faced challenges in the first quarter. The S&P 500 declined by 4.6%, reflecting investor apprehension amid policy uncertainties. In contrast, international markets showed resilience. European equities registered gains of 10.5% during the same period, reflecting investor optimism in these regions.

As fig A shows, this underscores a shift in capital flows from US equities toward international markets, suggesting a re-evaluation of growth prospects globally.​ This trend shows the benefits of diversifying portfolios across international regions, particularly in markets less directly affected by US trade policies.​

A. Global region returns

Source: KBIGI, MSCI USD returns.

Growth versus value dynamics have changed

The first quarter showed a shift in investor preference from growth to value stocks – as seen in figure B below. Growth stocks experienced a decline of 6.0%, while value stocks appreciated by 6.6%. This rotation suggests investors re-evaluated their risk exposure and switched from high multiple intangibles to more stable and predictable returns amid growing economic uncertainties.​

Defensive stocks that traditionally do well in tough times were the most popular over the quarter. Telecoms, tobacco, utilities, oil and staples were among the best performers.

B. MSCI world styles – relative performance

Source: KBIGI, MSCI USD returns.

Overseas earnings forecasts decline the most in US

Disruption from trade and tariffs threats meant downward revisions of earnings forecasts. So far, they don’t signal a recession, but more internationally-oriented companies are set to absorb greater impact.

In recent years, companies that generate more than half their sales internationally report stronger earnings growth than those with domestically-driven revenue. This trend flipped in Q1. As a result, internationally-oriented companies are expected to generate slower earnings than domestically-oriented ones.

Roughly 50% of earnings in the Magnificent Seven (Alphabet, Amazon, Apple, Meta, Microsoft, Nvidia and Tesla come from abroad, compared with 41% for the S&P 500. Their earnings could be further affected if Europe retaliates with a digital services tax. The light blue bar in Chart C below shows the earnings growth forecasts for companies with more than 50% of revenues generated domestically (typically these are smaller cap), while the green bar represents those with more than 50% from international markets.

C. International versus domestic earnings exposure

Source: FactSet, IBES

Catalysts for market movements

1. US tariffs and trade policy

Uncertainty about US tariffs, protectionism and future trade policy are primary drivers of market volatility. Such measures have heightened fears of a protracted trade war, prompting US investors to seek refuge in defensive sectors and safe-haven assets like gold, which surged nearly 19%.​

Despite dominating emotions and headlines, however, their impact in a global equity context could be exaggerated by further policy action. It is still unclear if the Trump administration intends long-term policy change or an aggressive negotiation stance.

While companies and consumers can adapt to new rules, it’s hard to do if the rules keep changing. Markets hate uncertainty and unpredictability. As fig D shows, consumers are also turning on the administration’s economic plans.

D. US consumers are rapidly souring on Trump’s economic plan

Source: Financial Times/University of Michigan consumer sentiment survey, 2025

Corporate and economic fundamentals remain robust and offer good financial buffers. Despite downward revisions due to tariff concerns, Factset estimates S&P 500 companies are still expected to report year-on-year earnings growth of about 7.7% for Q1 2025.

The market has, however, become increasingly worried that if the damage to sentiment and confidence is sustained, this mood change could become recessionary. More detailed analysis follows below.

2. Concerns US government spending cuts will damage corporate profits

The extent to which US government deficits of recent decades have contributed to record US corporate profits is often understated. Based on the most recent figures from the US Bureau of Economic Analysis, shown in fig E below, US government spending accounted for around 36.28% of the country’s gross domestic product (GDP).

As the quarter progressed, focus shifted to this under-appreciated risk. Investors became worried that corporate profits may be compromised due to attempts to reduce the federal deficit by cutting government contracts.

E. Comparing corporate profits and government expenditures.

Source: Federal Reserve Bank of St. Louis

3. A shifting focus to international markets and opportunities

Japanese yields moved upwards throughout Q1. This ended the carry trade that has supported demand for US equities in recent years. Many large professional investment houses borrow where money is cheap (Japan) and use it elsewhere to buy promising investments (US Tech).

But Japanese inflation has been rising, leading to higher yields on Japanese bonds. The yen has risen as a result. The source of cheap borrowing is gone, and investors are worried it will weaken demand for US equites.

Japan’s GDP expanded at an annualised rate of 2.8% in Q4 2024. This surpassed expectations and marked the third consecutive quarter of growth. Similarly, the Euro area has shown signs of economic improvement, with moderating inflation and supportive fiscal stances. Newly-established pro-growth policies, including fiscal stimuli and structural reforms, are enhancing their investment appeal.​

More broadly, current account deficits and capital account surpluses are inherently linked. If American tariffs reduce the US trade deficit, cross-border capital flows will also decline. As seen in Fig F, foreign owners have a greater role in the US equity market than they once did. Investors are worried about the potential repatriation of that international capital away from the US.

What if non-US investors decide to take profit? If trade flows are going to fall – an inevitable result of tariffs – capital flows will have to follow. That’s bad for the US, which has attracted masses of capital from overseas.

F. Foreign ownership of the US equity market

Source: Goldman Sachs

Capital was reallocated from the US, towards non-US markets. Investor surveys suggest capital is already being reallocated from the US to other markets, a trend that will accelerate. Charles Schwab reported the fastest ever pace of US equity selling in a single month, and the largest monthly outflow of US assets by private investors in a year. Figs G and H show ETF flows have also shifted away from the US.

Concerns are growing that, as international perceptions about the US deteriorate, and governance and trust become more challenging, US stocks will suffer a structural decline in demand from abroad.

G. Foreign purchasing of US stocks

Source: BOAML

H. US and Western European equity flow from January 2013 to Q1 2025

Source: EPFR Global and AB, 2025

4. Growing doubts about the AI payoff

Global trade disruptions aside, the emergence of competitive AI products from China has caused investors to doubt earnings growth projections and high valuation multiples from US Big Tech companies. Deepseek reverberations appear to have run deep, given the huge cash piles spent by US tech companies on AI development (see Fig I). Questions mounted over the quarter about the actual demand for generative AI products, the static performance of these products and the margins that can be attained. While misallocations of capital by growth-chasing CEOs seem like fanciful commentary, they are unfortunately regular.

I. AI spending by the Magnificent Seven

Source: FactSet, Goldman Sachs Global Investment Research, 2025

Risks of market concentration

The current bull market has been extraordinary, particularly in the US. Out of any 15-year period to be invested in equities dating back to 1970, the most recent has been the best.

For most of our working lifetime, stocks have been relentlessly positive, with dips quickly fading into memory. US equity returns have been more than double the average. In recent years, these gains have been caused by FOMO-driven momentum in a select group of mega-cap technology companies. Momentum has dominated recent market performance more than any time in history.

J. S&P 500 momentum

Source: S&P Dow Jones Indices

This led to sizable concentration risk in the benchmark as seen in figure K below. History tells us concentration risk is usually a negative indicator of stock market health. While these firms have driven market gains, they rely on elevated valuations and earning expectations that require perfection to prevail.

The benchmark’s lack of breadth and heavy reliance on performance introduces notable vulnerabilities. Recency bias, however, often means investors are blind to the risk. It’s wise to study history beyond the recent past to understand the ramifications. Investors may want to consider not only their overall exposure to US equities, but the composition of that exposure.

K. Market concentration over the last 100 years

Source: KBI Global Investors, 2025

Historical precedents highlighting concentration risks

From railroads in the 1930s, to the nifty fifty in the 1970s, history offers cautionary tales about the dangers of market concentration. The dot-com bubble of the 2000s was caused by excessive investment in internet-based companies. This led to inflated valuations and a subsequent market crash when the bubble burst.​

The 2008 financial crisis was made substantially worse by the market’s overexposure to the financial sector, and innovation in financial products that relied on exposure to subprime mortgages.

These episodes show how sectors can become overvalued when experiencing rapid growth. Shifting market sentiment also means widespread repercussions.​ They also show, however, while markets react negatively to unforeseen events, they can recover quickly, usually with new stock leadership.​ When money quickly leaves the narrow overcrowded trades, a new bull market in diversification usually begins.

Avoiding overly defensive postures

Given the current landscape, adopting an excessively defensive investment stance may not be warranted. Market downturns triggered by policy uncertainties have historically been short-lived, and fundamentals suggest resilience.

Maintaining a diversified portfolio that includes value stocks, dividend-paying equities and select international exposures can position investors to benefit from eventual market stabilisation and growth.

The present environment is characterised by heightened uncertainty and shifts in the global economic narrative can feel dizzying. Despite this, the fundamental aspects of the corporate sector remain solid. Long-term investors should remain vigilant, but not succumb to defensiveness, recognising markets have almost always shown the capacity to recover from policy-induced shocks.

Investment outlook

Tariffs were always expected from the new administration. Most market participants, however, believed they would be used as a bargaining tool rather than a potential revenue-raising measure. The announcement of so-called reciprocal tariffs brings them into the revenue-generating sphere after all. As always with the Trump administration, all could be reversed in the coming weeks and months. We must wait and see.

Trump is an aggressive and dramatic negotiator. Comments from the wider administration indicate broadbrush tariffs may still be exchanged for targeted deals. This would benefit his voter base helping steel and auto plants in the American Midwest, for example, and bringing looser restrictions on agricultural products. The impact on stock markets would be more limited if this outcome materialises.

Tariffs will reduce demand in the US and raise input costs for nearly all US companies. Management teams will have to decide whether to pass tariffs on in the form of higher prices or take a hit on profit margins (potentially some of this hit to their suppliers). Passing price hikes on will be difficult as consumers are still reeling from pandemic-related hikes. While central banks believe they have inflation under control, most consumers still complain about higher prices for everything.

Could we see stagflation?

This raises the spectre of stagflation in the US – the combination of weak growth and higher inflation. This would put the Federal Reserve in a difficult position given its dual mandate to control both inflation and growth.

While the knee-jerk reaction of markets was to include even more rate cut expectations into forecasts, the reality may be quite different if companies are forced to pass on rising input costs to consumers. Rising inflation will prevent the Federal Reserve from cutting rates and the so-called Fed put may not be there to protect retail investors who believe markets always go up.

It is worth remembering the US accounts for only 25% of global GDP and only 9% of global trade. This has decreased substantially over time, down from 15% in 1970. This is largely due to the rapid increase in global trade, especially among developing countries and emerging markets. The rest of the world can therefore adopt policies to counteract the US tariff measures.

The European Union is already showing greater unity, and the recent positive fiscal response in Germany is welcome. China has also adopted a more pro-business stance, while the rest of the emerging world continues to make progress. What markets need now is certainty. the follow-on from Liberation Day will potentially end policy flip flopping, and companies and markets can finally assess what the future holds.

Our analysis suggests corporates are displaying strong fundamental health and high levels of profitability. While sentiment is currently very poor, there are good financial buffers to offset the fall in consumer and corporate confidence. There are other elements to the Trump administration’s policies – tax cuts, deregulation and the establishment of a sovereign wealth fund. The emphasis thus far has been on tariffs, but details of these other policy agendas have yet to be revealed.

These more positive policy announcements are to be expected as the year goes by. This should help alleviate the risk of recession and force investors to look outside highly-defensive sectors. This environment would suit us best.

In the meantime, while bearish fears prevail, we expect our conservative and quality approach to dividends will deliver results similar to the downmarket in 2022. That year, we were nearly 10% ahead of the broad market. While traditional yield approaches with much higher sector focus on utilities and defensives do better in the early stages of a sell off, our more diversified method has consistently done better over longer time periods, as can be seen in fig L.

L. KBI relative performance at major inflection points

Source: KBI, MSCI, 2025

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