To continue with the metaphor, the markets are expecting several spoonfuls of sugar in the form of aggressive interest rate cuts in the U.S. to keep the rally going, and this despite the Federal Reserve (Fed) lifting its expectations for economic growth and inflation in Q4. We have had one cut, with at least one and maybe two further reductions projected before the end of the year. The Fed’s Federal Open Market Committee is split right down the middle, illustrating the difficulty in making any major decisions given the potential headwinds in the last few months of 2025.
The recent weakness in U.S. employment provided the rationale for the September cut, which was presented as a “pre-emptive” measure. Yet, the path of rate cuts is not locked in, as per Chairman Powell’s most recent comments, so at some point there may well be disappointment if unemployment begins to stabilise. This is really the key indicator: if we see a re-acceleration in growth and thus employment, then inflation may well pick up as consumers would be better able to absorb price increases. Good news (better economic conditions) thus becomes bad news (less need for rate cuts).
The direction of inflation is the elephant in the room. With continued speculation over the future independence of the Fed given White House pressure to cut rates aggressively and the likelihood of a new Chair and perhaps 1–2 new governors more aligned with this view, there may well be a risk that inflation climbs again in 2026. Moreover, will there be an inflationary effect from tariffs? Is the market correctly discounting this or will we see a delayed spike as inventories roll off and companies finally pass on costs rather than taking a hit to their margins? Which industrial sectors will be impacted? Do markets even care?
The Swiss equity market illustrates this lack of concern. After the initial brief sell-off in August, the stock market bounced back, outperforming MSCI Europe over the past month. The market was led by pharma names like Roche, even though the tariffs imposed on Switzerland, the highest in the developed world, targeted that sector. This is an indication that markets no longer see the tariff effect as significant. Naivety or just the realisation that companies have already adapted to this new reality or indeed just do not believe that the tariffs stick?
Another notable example of this indifference was the muted reaction from investors to the latest announcement by President Trump of a 100% tariff on branded drug imports. Investors are focusing on exemptions for companies with U.S. manufacturing – most big pharma companies (including most of the big Swiss names) have or will have US plants. It will be the small producers with no U.S. presence who will be impacted the most.
Liquidity, liquidity, liquidity. This is the driving force behind the positive momentum in financial markets. Gold, equities, fixed income – all are taking part in the bonanza, and the demand for yield continues apace with the new issue market in High Yield illustrative of the money piling into the credit markets. New Issue Premiums are non-existent, deals are being upsized, spreads remain at historical tights and expectations of improved earnings are bolstering the general optimism of investors, despite elevated market levels. September is usually the worst month of the year for U.S. stocks, but that was certainly not the case this year. Indeed, 2025 saw the best September since 2010.
Given the liquidity tailwind, markets can remain elevated for some time, barring an unexpected shock. Recession seems unlikely given the data so far, so the real risk is disappointment with regard to the trajectory of interest rate cuts in the U.S. Employment and inflation are key factors in this discussion and we just do not have enough data yet to decide.
