Top of the Morning: Roaring 20s - Roaring at the Midpoint
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Hi, everyone. Dan Cassidy here. Welcome back to Top of the Morning on the UBS Market Moves podcast channel. Over the past few years, financial markets and growth indicators have broadly surprised to the upside, this leading to more uptick.

optimism and animal spirits as the decade reaches the midpoint. Now, back in 2023, the UBS chief investment office wrote about the likelihood of a roaring 20 scenario and authors Jason Draho, head of asset allocation for the Americas, as well as

Paul Hsiao, asset allocation strategist for the Americas, actually both joining us today here in studio in New York to share their revised assessment of the Roaring Twenties environment for the U.S. economy. This comes in the form of a recently published report titled Roaring at the Midpoint. So with that, Jason, Paul, it's great to have you both here today at the table. A lot to cover with our listeners. So let's jump right into it.

Jason, it's been a half a year at this point since the last update of the Roaring 20s. And back at that time, the chief investment office wrote that the roar is getting a little louder, an optimistic assessment. So, Jason, now that we're beginning a new year, 2025, are conditions still roaring? The title kind of gives it away to some extent when we're saying like roaring at the midpoint.

The way we kind of define it, and this is somewhat subjective, but a set of economic criteria that we laid out over a year ago to define what we consider the economy to be sort of roaring or in a regime that is clearly like a higher growth, higher inflation, higher rate environment. And the criteria we set out would be like, you know, is the economy growing at least at sort of 2.5% or higher?

Well, we don't have official 2024 full-year GDP or even Q4, but the tracking estimate for Q4 right now is at 3%. And that will put on the full-year GDP around 2.7%, 2.8%. So above the kind of growth we would suggest is kind of roaring. Inflation of like 2% to 3%, and we're in that range depending on exactly what metric. Rates a little bit higher than the range. Like ultimately you said the Fed would cut rates to about 3.5%. We're at 4.25% for the Fed.

And the 10-year, 4-ish percent, and we're clearly above that. So rates are on the higher end. But the economy growth inflation is very much in line with kind of these roaring conditions that we laid out. And at the moment, it doesn't look like the momentum is suggesting sort of, you know, kind of any lineup. So –

The economy is roaring by that criteria and certainly the stock market, given how it's performed. Last year, it got up about 23% the year before, 24%. And since the beginning of the decade, since December 31st, 2019, the S&P 500 total return is over 100%. So the stock market has certainly been roaring the first half of this decade. So-

Hence the title, Roaring at the Midpoint. The real question is, will this continue or not? So with that backdrop, Paul, to welcome you into the conversation, within the report, you do update your ROAR score assessment of the economy. So remind our listeners, clients, Paul, what the ROAR score is and what has the updated assessment revealed. So Jason talked about some of the economic indicators that we're looking at to see whether we're roaring or not. Our ROAR score looks at how sustainable markets

These growing 20s is, and we're basing it on this economic model called the solo swan growth model. And that essentially states that in the long run, output or growth is determined by capital labor inputs multiplied by technology or productivity. So to put it simply, an economy benefits when population growth, capital investment, and productivity gains increase.

are all increasing or some combination of all three of these things. So when it comes to capital investment, we still hold a relatively optimistic assessment given the surge of capital investment in pockets of the economy following legislation like the CHIPS, BIL, Investment Reduction Act, and now helped by a surge in business optimism after the election.

Additionally, we have a breakout of AI since we think that's a combination between capital investment and productivity. There is actual evidence that not only capital investment in AI technologies is increasing, especially help with that recent announcement from the Trump administration about $500 billion in private sector investment.

But we also see more and more companies adopting artificial intelligence technologies. And we're looking really for some of those productivity gains, hopefully this year or down the road, to see how sustainable growth can actually be. However, when it comes to our score in labor, we decreased our assessment just given the policy stance of the new administration, since it's already taken measures to slow, if not reverse, net immigration flow.

And finally, our assessment on productivity remains the same, robust reading, given the assessment on the optimistic productivity readings in terms of the economy.

So now that we have the updated assessments, have to, of course, acknowledge the new political dynamic landscape within Washington, D.C. Jason, as you know, as we're recording today on January 22nd, just a couple of days ago, we did have the inauguration of President Trump. So when you think about policy, Jason, how does policy factor into the future?

into your assessment of the Roaring Twenties regime? Well, policy is like a wild card because there's a wide range of outcomes that the administration could pursue. Some of which would definitely be supportive. And Paul mentioned this $500 billion investment in AI, this private sector investment that Trump sort of announced earlier today.

So that could be a positive. But at the same time, he is also in the past – or first 48 hours talked about tariffs of 25% on Canada and Mexico, effective February 1, 10% tariff increase in China on February 1. If those were to go through, they would have a material and negative impact on growth. I mean those are significant tariffs on major trading partners for the US. It's hard to impose that and not have a drag on growth.

So will that happen? That's not our baseline view, but that is certainly a risk. So the economy kind of left with no real sort of major changes to policy should continue for this trend for a while. And the AI developments is sort of another kind of wild card of like how significant, how soon. But policy could go either ways. Ultimately, this kind of gets into whether the administration would be more Doge-esque in its policies versus Magan. We've talked about this down on other podcasts.

And Doge, to me, is like, you know, more pro-supply side, supply side improvements, trying to reduce the role of, you know, increase the efficiency of the private sector, reduce the role of government, you know, through regulation, and let the supply side of the economy improve. Like, that's really been the crux of the thesis from day one is that

For the Roaring Twenties to be sustainable, you need this positive supply side story. We think ultimately the administration is going to lean towards policies that enhance the supply side rather than adversely impact it. Tariffs would be an adverse impact. But until we get that policy clarity, that is a bit of a wild card.

It's also why I think we've characterized this as a bit of a make or break year for the roaring 20s. It's been roaring so far. If the right policies go in place, that could further extend it. If it's the wrong set of policies, that could kind of bring it to sort of an end. On top of this, of course, there's what the Fed does. At the moment, the Fed is probably in a good position just watching the economy is in good shape. Inflation is kind of holding steady. Assess what the administration will do and respond accordingly.

There's also a risk course the Fed makes a policy mistake by not cutting rates or cutting too much. It allows inflation to pick up. So it is – it's an uncertainty. And given large deficits, that also impacts what could happen in terms of the economy. Temporarily good, maybe long-term not so good. So –

A wide range of outcomes ultimately think the policy, at least in the Trump administration, will be directly supportive. But time will tell as we see the details and actual implementation. So a lot to be figured out as we await the evolution of the policy landscape from the White House and, of course, accounting for how the Fed monetary policy might play

progress here in 2025. So thank you for that, Jason. Up in terms of risk factors, Paul, to welcome you back in, what are some considerations there that investors, business owners should be aware of? I think a couple of things might threaten sort of the roaring 20 scenario at the midpoint. The first, as Jason pointed out earlier, is that interest rates are on the higher end of what we're expecting. And certainly, we expected policy rates to be around 3.5%. And

I think around midpoint last year, and they're certainly higher than that now. And interest rates could remain higher, especially if growth and inflation continue to beat expectations. And the administration is actually successful in passing those spending plans that exacerbate the deficit. So investors might require additional higher yields to compensate for that risk. And that would be a drag on growth, especially if the productivity and growth gains from AI disappoint.

The second sort of risk from growth that we're monitoring is the K-shaped recovery in consumers. So consumption has been remaining quite robust so far. But sentiment and just recoveries in net worth have benefited higher income households much more than lower income households. So time will tell on how durable the consumption recovery, consumption trend will hold up.

And additionally, while we do expect the bull market to continue for equities, rising equity prices can create a feedback loop by easing financial conditions and encourage risk-taking that can shift risk assets into bubble territory, which could certainly end the roaring 20s scenario as it did nearly 100 years ago. But that's certainly not our expectation, but certainly a risk that we think business owners and investors should be aware of.

Thank you for keeping our listeners, clients current on those risk considerations. So if we bring this all back to investors, Jason, as we close out, given the environment that yourself, Paul, have shared with us today, what could a continued roaring 20s environment mean for investors? Well, like I mentioned earlier, the stock market has been roaring even more than the economy. But if the economy continues with these conditions, it is certainly a very favorable environment for risk assets to do well.

So generally, it should be positive for U.S. equities to continue. And there's always a risk that at some point things could get too far stretched. It's not a major bubble. Definitely things that are kind of vulnerable to sort of pull back later on, but not anywhere in the near future. A key part of the thesis on supply-side improvement that we've updated this report and Paul talked about is AI getting productivity benefits there.

So if that actually plays out from an equity or stock market perspective, it supports our view that AI is a multi-year sort of secular theme, that technology sector is a key beneficiary. It's why right now we think technology is certainly the most attractive sector within U.S. equities that we like. A lot of this, like everything we've talked about right now is about the U.S. specifically. So it is a U.S. specific story right now.

A major theme last year was this idea of US exceptionalism. I kind of used exceptionalism as the finance word of the year last year. So this story of the kind of US outperformance is likely to continue as long as this roaring 20s regime persists. So just on a relative basis, that certainly favors the US. But a couple other things just to kind of keep in mind is that we're saying inflation will be 2% to 3%. So contained but also not 2%. And the risk is that inflation could always accelerate. And when it does –

It leads to concerns where like, well, maybe rates have to go higher. The Fed has to even hike rates. That's bad for bond prices. It's bad for stock prices. So the correlation between stocks and bonds may not be consistently negative. It could fly up to be positive. So thinking about diversification, how to diversify your portfolio is also probably a little more difficult or different than it was for the past 20 or so years where the stocks and bonds kind of moved opposite directions.

So you're thinking about other ways to kind of diversify your portfolio. So equity upside, you could be very attractive. But thinking about if there's downside, you got to be prepared for some other hedging, which is kind of ties into why gold is an asset class that we also currently like.

So roaring 20s, it's an economic kind of argument primarily, but it's clearly been also a financial market performance. And if it's roaring 20s for the economy, it's probably – that's the story for the equity markets, U.S. equity, U.S. assets in particular. Well, a lot of interesting takeaways. And Paul, Jason, thank you both for spending some time with our listeners, clients as we've

reached the midpoint of the 2020s 2025 to hear your updated assessment of the roaring 20 scenario i'm sure we'll have plenty of other follow-up conversations this year though thank you both again for your time today you're welcome thank you very much

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