Escaping The Wealth Illusion

Introduction

January marks the beginning of both the new year and a new administration in the US, each of these contributing to fresh economic data and heralding market movement that sets the tone for the upcoming three to four quarters. After the holiday season markets often see a recalibration, influenced by year-end financial adjustments and investors’ reassessments of their portfolios. In “Year 1” of a new US Presidential cycle change in policy direction from an incoming administration also plays a key role.

In this update, we’ll delve into the significant shifts across equity, bond, and cryptocurrency markets, alongside key economic indicators that could shape our investment strategies for the rest of the year.

Summary of Major Equity Markets

United States

January saw a volatile start for the S&P 500 with an initial dip of ~1%, followed by an initial recovery to move up by ~2.5%. Following this volatility, the real volatility started! Down ~4.5%, up ~6%, down ~3.5% then finishing the month up ~2% for an overall change of +2.5%. This volatility was partly due to the new administration’s policy announcements and a mixed bag of earnings reports.

The Dow was a little more directional, starting the month with a little drawdown before surging to end the month ~+4.5%. Much more of a classic buy profile here.

Tech stocks in the NASDAQ continued their upward trend, gaining ~1.7% overall, with a monthly profile more closely aligned with the S&P. The Deepseek panic late in the month contributed to a large gap down (aligned with the major wick down on S&P) but stabilised as initial panic subsided with more detailed Deepseek info coming to light.

Small-cap stocks in the Russell 2000 recovered slightly, up by ~1.6% over the month. A similar profile to other major US markets but the Russell remains in retrace from a top territory, so something we probably should be mindful of looking forward through Q1. It’s possible the Russell is our leading indicator of major US markets just now.

United Kingdom

The FTSE had an unexpectedly strong month, the UK index up 5.73% from the open. It was a record breaking month for the index, breaching all time highs twice as it broke it’s trading rage convincingly. This is the best period of performance for the UK index since the rebound from Liz Truss’s famed “mini budget” which caused markets to sell off sharply. To experience this movement outside of such an event and at all time highs was quite the unexpected boost for UK companies.

In truth, the boost may be short lived as certainly the latter part of the monthly move appears to be driven mainly by more defensive repositioning of investors away from US heavy teach portfolios in response to the Deepseek news from China, rather than an endorsement of the prospects of the UK economy. Whether this rally is sustained as the fear around this subsides remains to be seen, but none-the-less a positive month for UK investors.

Europe

European markets also enjoyed a positive January, the EU50 Index up a whopping ~7.9% on the month. An ECB rate cut and some repositioning in advance of US policy on tariffs helped to increase value across the index for EU investors. Again, sustainability of this move remains in question, but a welcome opening to the quarter for European investors all the same.

Japan

The TOPIX had a sideways month in terms of open to close, a change of ~0.12%, but that doesn’t tell the full story of what was a markedly more volatile month. The index fell sharply ~5% from open to mid month, before recovering to it’s open in the second half of January. Given the strong December one might see this as a consolidation of that position, but the volatility and profile of the month leaves a few interesting questions regards mainly BoJ policy through the rest of Q1.

Bond Market Dynamics

US Treasuries

US Yields saw some stabilisation after December’s strong rise. The 10 year for example ended the month at 4.54%, down from 4.57% at the start of the month. Inflation remains a key consideration for the bond market as we await further developments on the “Trump Tariffs” front, the President himself finally acknowledging short term inflationary pressure from such political policy to the press as the month closed and he confirmed tariffs for Mexico (25%), Canada(25%, 10% on fuel) and China (10%), the US’s 3 largest trade partners.

The Bond Market will be watching these developments closely to see if expected inflationary pressure strengthens the US dollar and makes fixed income yield an appealing position. More on tariffs later as I expect these to be a key facet of market dynamics through the remainder of 2025.

UK Gilts

UK yields slightly decreased, with the 10-year gilt yield falling to 4.5% from it’s mid month high above 4.9%, reflecting cautious optimism about inflation control in the UK. Promising economic data contributed to this alongside global investor recognition of the likely pressure on US bond markets.

Eurozone and Japanese markets

German Bund yields normalised after a volatile December as investors assessed the ECB’s next moves amid overall global bond market dynamics. In Japan 10Y yields remained low as the BoJ continued its accommodative stance in the face of rising inflationary pressure and increased rates to their highest level in 8 years.

Cryptocurrency Market Trends

Bitcoin continued to bounce around the top of it’s macro trading range as an underwhelming January saw yet more sideways movement. The outlook here remains bullish for at least Q1 of 2025 with macro structure in a strong uptrend. Bitcoin seasonality is generally strong and January is usually a month of sideways for the orange coin, February prospects much better is it generally performs well in the second month of the year.

Perhaps the most significant Bitcoin news of the month was the collective losing of Bitcoin Maxi minds when the incoming administration announced plans to investigate a “Strategic Digital Asset Reserve” in the US, rather than the “Strategic Bitcoin Reserve” those who have all their eggs in one orange basket were expecting. As humorous as this was, it did reflect rather poorly on the maturity of the cryptocurrency market as a whole, so many of its most prominent players, those used by media outlets to advocate for the asset class, entering into a collective “throwing of the toys from the pram” kind of strop you might expect from a spoilt child.

This market is certainly maturing year on year as governments, institutions and more sophisticated investors become interested in the potential of digital assets. This remains hugely positive long term for those of us who advocate for Bitcoin and the large to mid cap digital asset space in general (not so much the nyetcoin market!). But this was a reminder that for said maturation to continue at pace perhaps we need to be more careful about who we put forward as spokespeople for the class.

I had more than a few comments from my no-coiner friends around the childish responses of the Bitcoin Maxi community and unfortunately if we want to continue towards mainstream adoption it’s those asking these questions outside of the space we need to convince. The nature of the response from our (current) most prominent spokespeople won’t help with this, their self interest so clear it could be tasted.

As an aside, the US approach seems most sensible to me and I was of the opinion for a long time that a single asset strategic reserve, particularly one with an unknown counterparty risk, was unlikely. That has always seemed to me a risk too far. A reserve of strategic digital assets of which Bitcoin is a major part (IMO the major part) seems a far more sensible approach. Afterall, what we’re talking about here is essentially a “National Portfolio” and as such appropriate diversification is eminently sensible from a risk perspective. 50% Bitcoin and 50% split between Large and Mid Cap US based cryptocurrency projects who can be influenced by regulation locally (like SOL, XRP, SUI, ADA and the like) would seem like a fairly sensible approach to this investor.

I realise this sort of influence is not something “pure” cryptocurrency advocates like the thought of, but the reality is that this is how governments operate (with leverage) and one can’t have their cake and eat it here. If we advocate for the benefits of government involvement in digital assets we must accept the way governments work when they bring said involvement.

Key Economic Data Releases

Federal Reserve (Fed)

As expected by markets, no rate changes were enacted, but the Fed again signaled readiness to adjust policy based on incoming data with a particular focus on inflation and employment figures. CPI rose slightly, with headline inflation up from 2.7% to 2.9%, while core inflation ticked up from 3.2% to 3.3%. Unemployment reduced slightly from 4.2% to 4.1%, with NFP numbers slightly below expectations, suggesting a balancing of the labor market and a reduction in previous strength shown in this metric.

Retail sales were up on the month but came in more than 30% below expectation while Core PCE came in on expectation, up on previous month. All things considered the US economy is still signaling resilience which is good for asset markets and plays with my view that we have at least 1, probably 2 more quarters before I start to look at rebalancing my portfolio and taking a more risk off stance.

Bank of England (BoE)

The BoE kept rates at 4.75% as expected, with Headline Inflation at 2.5%, slightly under the 2.6% expectation and down 0.1% from December. Unemployment ticked up to 4.4%, reflecting economic caution. Core CPI also provided a surprise, down to 3.2% from 3.5% where 3.4% was expected. This was another contributory factor to the strong end to the month the FTSE enjoyed as lower than expectation inflation figures are generally bad for currency and good for asset markets.

GDP growth came in at 0.1%, below the 0.2% expectation but still signaled a positive change from the previous -0.1% as the UK economy shrank in December.

Overall the UK economy is still in a precarious position as tough times are predicted under a Labour government who seem unable to form a coherent plan to move the country forward. January may have been a positive month for the FTSE, but with the economic headwinds still firmly blowing how long this rally can last remains open to debate.

European Central Bank (ECB)

No rate changes again in January, but discussions hinted at potential easing if economic recovery continued to be uneven. February and March will bring more data around the overall recovery but I anticipate change at some point in Q1 or Q2 regards ECB position.

Bank of Japan (BoJ)

Rates were raised to their highest level in 8 years as the BoJ increased to “around” 0.5%. This was in reaction to inflation rising at its highest rate for 18 months, coming in at around 3% in January. This, combined with the weaker than expected jobs report in the US, contributed to much of the market volatility towards the end of the month as it caught investors off guard and markets generally react poorly to the unexpected.

The BoJ raising rates now may be a strategic play as well as a reaction to the inflationary figures. With the incoming rhetoric around tariffs in the US the BoJ gives themselves more scope to cut rates later if required by increasing them now into the inflation uptick.

Emerging Risks

These remain broadly aligned to December as we simply gain more detail around their progress in January.

Geopolitical Tension

Continued friction in trade policies, especially those connected with US Imports with new tariff implementations under scrutiny. President Trump has already announced tariffs on all imports from Canada (25% and 10% on fuel), Mexico (25%) and China (10%) and has threatened a whole host more, including Europe and Japan. Canada has already retaliated with their own 25% tariffs on US imports and, to be frank, the people most affected by this will be consumers in the impacted countries who will find their goods and services costing more at a time when they can ill afford it.

Inflation Concerns

Persistent service sector inflation globally is likely to delay anticipated rate cuts and tariffs are, in general, inflationary for the country imposing them. this is an unpopular view in the US where the majority think it’s net positive for the US, but even the President himself has acknowledged in the last week that there is likely to be inflationary impact on US consumers, something many of us have been saying for a long time.

This plays directly to my US recession projections for the latter part of 2025, early 2026, based on historical indicators (as discussed in Decembers report).

Currency Fluctuations

A strong USD could impact emerging market currencies and multinational earnings. The Fed soft pivot in December was a beginning to this, with tariffs in January and inflationary pressure anticipated from it leading many to the thesis that a strong US Dollar is likely to continue through the latter part of 2025.

Assets of Interest Moving Forward

Not much change here from December, mainly the AI risk increasing as a result of Deepseek emergence in China, though the veracity of this concern is yet to be fully understood.

• Gold: With inflation concerns, gold might continue its upward trend as a hedge, especially if real yields remain low or negative. I am in two minds here with the recent upturn in yields however it is worthy of consideration at this time IMO.
• Emerging Market Equities: Opportunities could arise in markets like India or Brazil, which are showing resilience or even growth in domestic demand. Large allocation here is risky, but consideration for a small allocation may be something worth consideration.
• AI and Tech Infrastructure: Deepseek emergence in China has raised questions over the profitability of the AI sector elsewhere, give the claim they are able to build better, more efficient models for a literal tiny fraction of the cost. Early concerns seem to have subsided somewhat but this is one to keep an eye on through February.
• Cryptocurrency: We’re now in year 4 of the traditional cryptocurrency 4 year cycle and February tends to be positive for crypto more often than not (see stats above). Whether this time will be different or not, I still believe there to be a minimum bullish upside capture available through Q1 and potentially Q2. My base case for a Bitcoin top range is $134k to $157k (I have a bear and bull case lower and higher as well, at $114k to $125k and $180k to $250k). The Altcoin market I have a base case of around $3T with a bull case of $4T meaning a potential 3x from here. Time will tell, but I think a reasonable allocation here is still warranted for my taste.

Potential Portfolio Adjustments

No change here from Decembers report, but I’ll repeat that information for completeness.

Diversification into Fixed Income

With yields potentially at or near a peak, locking in higher rates through medium-term to longer-term bonds might be an option for larger portfolios to lock in return. High-quality corporate bonds could also offer higher yield without excessive risk. I still believe there are 3-6 months minimum in Risk On bullish trend, so this is less of a concern for those happy with risk, more as a hedge for those with significant capital looking to preserve some profit for potential deployment later.

With inflationary pressure seemingly increasing though and the potential for further QE to stimulate growth in response to a potential recession in H2 2025 duration risk here is a definite consideration. I personally won’t be doing this, but it merited a mention IMO given the recent change in bond yields.

Currency Hedging

For those with international exposure, consider hedging against the dollar, especially if your investments are in regions where the local currency might depreciate. With the DXY posturing strength technically and the Fed signaling for higher rates for longer (net positive USD) any positions you hold in US equities (for example) that are denominated in local currency are likely exposed to higher currency risk through 2025, particularly H2 if (if!!) a recession does come and we see QE used to stimulate growth.

Sector Rotation

Moving towards sectors with lower cyclicality like utilities or healthcare, or those poised for growth due to regulatory or technological shifts may be an option. Again, with 3-6 months minimum remaining in an equities (and general risk on) bull market I think it’s a little too early for this approach and won’t be in my considerations for Q1, but again warrants mention given the hawkish tone change and longer term outlook. I think this likely a consideration that will stay on here till end Q2/Q3 time before I look at it seriously.

Cryptocurrency

If you have an appetite for high risk, consider risk reasonable allocations to cryptocurrencies with strong fundamentals or those likely to benefit from regulatory clarity. US based cryptocurrencies certainly appear appealing in light of statements from the incoming administration and the potential demand inflow this would bring, as well as those who have had ETF applications filed to use as a benchmark.

FWIW I’m not one who buys the chat on a strategic US Bitcoin reserve. I’ll perhaps cover this in a future article in it’s own right as there’s too much to go into here, but for the purposes of this discussion I think it’s far less likely at present time than many in the space who are excited about it. Bitcoin however, still remains the oldest, most trusted and least risk asset in the crypto market. It’s likely return from current prices (mid $90k’s) is in the region of 40%-60%, with a bull target just above 100% in the short term (within 12 months), but that still represents huge potential without taking on outsized crypto risk in nyetcoins and memes!

Equities & Risk On

In case I haven’t said it enough! I think we have 3-6 months minimum in this bull trend across the Risk On classes. My personal taste, for now, is to continue to allocate the majority of my capital here (along with cryptocurrency) and milk as much return as I can before I anticipate becoming more defensive later in 2025. I’ll review this again at the end of Q1.

Looking Ahead: Remainder of Q1

The Fed’s next meeting in late February will be pivotal, alongside ongoing policy implementations by the new U.S. administration. Investors should watch for any shifts in monetary policy or inflation control measures as well as upticks in inflation across the globe. US inflation will be a key focus for monitoring for me for the next 2 quarters at least as tariff implementations start to roll out.

Confirmation of the Deepseek impact (or lack thereof) in the AI space should become clearer as February progresses so those with heavy AI and US tech exposure (which lets be honest is probably most of us!) should keep a keen eye on these developments. At the moment, having tested Deepseek, my concerns are minor. But as always I’ll monitor the data to see if anything changes.

Cryptocurrency is entering the most bullish phase of its traditional 4 year cycle so exposure to Bitcoin and strong altcoins is likely, certainly historically speaking, to provide strong return through February and March. Whether we get a peak in Q1, early Q2 and a drawdown into summer before a final Q4 top remains to be seen. I’m personally uncomfortable that this appears to be the majority sentiment and with my thesis on the resilient US economy having one to two quarters remaining I consider the assumption of that second top in Q4, particularly in a recessionary scenario, as a significant risk.

There are plenty who surmise that in a recessionary environment Bitcoin will flourish. I don’t share this sentiment personally as it’s based on nothing from a data perspective. Bitcoin acts like a risk asset at the moment and in the only historic example we have (Covid) it followed risk assets as one would expect. Could it be different this time? Of course, I’m never absolute in my thinking, but I prefer to base my decisions on data and mathematics than blind faith. As such, I keep an open mind and review the data as we have it.

The Inflationary Impact of US Tariffs

In the end and without exception the end consumer pays the tariff. It is, essentially, an additional local sales tax.

Inflationary Effects on Consumers

Direct Price Increase: As described above, tariffs increase the cost of importing goods. Since importers must pay these additional taxes, the price of the affected goods inevitably rises to cover these costs. This means that products ranging from electronics to food items become more expensive for consumers. For instance, if a tariff is imposed on steel, the cost of everything made from steel or that uses steel in its production process, such as cars, appliances, and construction materials, will likely increase.

Higher Production Costs: Many industries rely on imported components for manufacturing. When tariffs make these parts more expensive, the cost of production goes up, which is then passed onto consumers. This is particularly pronounced in sectors where domestic production cannot easily replace imports due to cost, quality, or availability issues. This is often an argument for tariffs, that it will “encourage companies and consumers to buy locally which will stimulate jobs and bring industry back to near shore”. This is absolutely true, but the reason these industries were offshored in the first place was cost. Bringing them back, while stimulating a local economy, still leaves the goods and services linked to them at a higher cost than before as it’s either higher local cost (absorbed by the consumer) or higher import cost (absorbed by the consumer).

Market Concentration: Tariffs can reduce the number of foreign competitors in the market, which might lead to a decrease in competitive pressure. With fewer options or higher costs for importing alternatives, domestic companies might not feel the need to keep prices low, potentially leading to higher consumer prices across the board.

Global Trade Disruption through Retaliatory Tariffs: When one country imposes tariffs, it often prompts retaliatory measures from affected trading partners. This can lead to a cycle of increasing tariffs, which not only affects the cost of imports directly but can also disrupt global supply chains, further pushing up the price of goods.

Strengthening Local Currency: Tariffs can lead to a stronger local currency as foreign goods become less competitive, reducing demand for foreign currency. While this might seem beneficial, it can increase the cost of imports even further for domestic consumers since paying for imports in a stronger local currency is more expensive.

Governmental Objectives Behind Tariffs

Governments generally do not implement tariffs without specific goals in mind, despite the inflationary effects. Some potential goals (some of which have been mentioned specifically by the incoming administration) include:

Protection of Domestic Industries:

Infant Industry Argument: One classic rationale for tariffs is to protect nascent industries that cannot yet compete on a level playing field with established foreign competitors. By making foreign goods more expensive, domestic products can gain market share, fostering growth and innovation within the country.

Strategic Sectors: Tariffs are often used to protect industries deemed vital for national security or economic stability, such as steel, agriculture, or technology. The goal is to maintain or increase domestic production capabilities, ensuring that critical sectors are not entirely dependent on foreign supply.

Job Preservation and Creation:

Employment Boost: By making imports less attractive, the demand for domestically produced goods should theoretically increase, leading to more jobs in manufacturing or related sectors. However, this is a contentious point, as jobs lost in sectors dependent on imports (like retail or service industries) might not be offset by gains in manufacturing.

Revenue Generation:

Fiscal Benefits: Tariffs can serve as a revenue source for the government, although this is typically secondary to other objectives. The income generated can be substantial, especially if the tariffs are on high-volume or high-value goods.

Trade Balance Correction:

Reducing Trade Deficits: By imposing tariffs, governments aim to reduce trade deficits by decreasing the volume of imports, which in theory would increase exports if other countries do not retaliate or if domestic goods become more competitive.

Negotiation Leverage:

Diplomatic Tool: Tariffs can be used as a bargaining chip in international trade negotiations. By threatening or imposing tariffs, a country might coerce others into lowering their trade barriers or making concessions in trade agreements.

Consumer Behavior Modification:

Encouraging Local Purchase: Governments may aim to shift consumer behavior towards buying local products, supporting the domestic economy, and reducing reliance on foreign goods, which could be seen as a form of economic nationalism.

Outcomes and Considerations

While tariffs might protect industries in the short term, they lead to inefficiencies, higher costs for consumers, and potential international friction. Long-term, they might hinder innovation if domestic companies become complacent due to lack of competition. The inflationary impact can strain consumers, particularly those with fixed or low incomes, leading to decreased consumer spending which is detrimental to economic growth. This is the outcome on which I am most interested at the moment: will it signal the turning from a resilient US economy into the recessionary period that historical indicators suggest a significant risk in 2025?

Tariffs can also sour international relations and lead to trade wars, which have broader implications including economic sanctions, reduced global trade, and slower global economic growth. They can also lead to hot wars, a disastrous outcome for everyone given the global nature of conflict in the modern age. Sometimes, tariffs lead to unexpected outcomes too, like smuggling, black markets, or companies moving operations abroad to avoid tariffs.

So, while tariffs can achieve certain protective and fiscal objectives, they come with the significant downside of causing inflation for consumers locally who always foot the bill. I think most in the US celebrating the tariffs as a show of strength are completely oblivious to this reality and will likely be unhappy when, too late to do anything about it, they start to feel the effects.

Conclusion

January 2025 set the stage for a year where careful navigation through economic and geopolitical landscapes will be key. Markets showed resilience amidst existing and emerging uncertainties with tech sectors again leading the way. While traditional markets recalibrated after December’s hawkish tones January was net positive across the risk on classes with February having potential for continuation.

Deepseek should be closely monitored for the tech heavy US investor and the impact of policy from the new US administration should be a key component of everyone’s thinking this month. Crypto investors are also looking forward to a positive month should the historic statistics be anything to go by.

I still favour Q1 & Q2 to remain positive, with H2 of 2025 potentially shifting as the threat of US recession, in my mind, remains. As always, maintaining a balanced approach to risk and reward, with an eye on emerging trends and potential economic shifts, will be crucial for investment success in the coming months and quarters.

“Lang may yer lum reek.”