Branstad: Hi, everyone. Thank you for joining us today for Thrive Asset Management's 2025 Mid-Year Outlook. I'm Jeff Branstad, portfolio manager of Thrivent’s Model Portfolio Suite. Today I'm joined by David Spangler, our VP of mixed assets and market strategies; Kent White, our head of fixed income; and Steve Lowe, our chief investment strategist.

U.S. equities were still pretty volatile in the second quarter. There were large crowd drawdowns and pretty big reversals. So how did trade and other areas of uncertainty impact markets, Steve?

Lowe: What markets struggled the most with is that policy can change right now, you know, day to day, month to month. And it makes it very hard. And that creates volatility and markets plunged after tariffs were unveiled in April. And you know vol and treasuries and equity markets were really akin to what happened in Covid and the great financial crisis.

It was that volatile. But vol cuts both ways. So as soon as the tariffs were delayed, markets shot up and they continue to move on, you know, fluctuating with trade policy. Currently, you know, we expect uncertainty to continue. It's a difficult environment to invest. You need to have a really longer term horizon.

Branstad: One thing that has changed is forecasted recession odds have shot up with the volatility and heightened uncertainty. So how has market volatility in that policy uncertainty actually impacted the economy?

Lowe: The issue is that uncertainty can slow economic activity as consumers and companies don't know the rules. And it makes it very hard to plan. If you look at CEO confidence, it's low. And that could be very correlated with not necessarily layoffs but less hiring that they pull back.

Spending has softened a little bit, has actually held up pretty well. So how consumers say they feel, what they do are often two different things. But historically, the longer uncertainty stays around, the greater chance of downside risk of slowing the economy. And the other impact is that tariffs can and likely will raise prices. And higher prices can slow growth and people pull back on spending. It's just, you know, too early really to tell, though, the full impact of tariffs.

Branstad: Do you guys expect a recession in 2025 or 2026? David, let's start with you. What are you most worried about?

Spangler: Well, outside of an exogenous shock, no, we don't expect a recession in 2025 or 2026.

White: Yeah, after the initial tariff announcement, I think we're definitely in the camp that we're likely to see a recession. Since it was dialed back, though, that's not our base case. Not currently expecting a recession, but risks to growth and labor markets definitely remain elevated.

Branstad: Well, the surveys you know, continue to show that consumers are very concerned about higher prices and that they're even expecting higher inflation over longer periods. Kent, what do you expect. Are the consumers right, are they wrong?

White: On the inflation front, though, at least over the shorter term, I would have to agree with them that we're likely to see some higher inflation. Well, we've seen some recent softening in the inflation data. We've seen very little of the actual impact from tariffs beginning to show up yet. Like Steve mentioned, the next few months are going to be really critical to see how that begins to flow through. And we should see those effects – in Q3, Q4 we’re going to see them.

Where I disagree with these consumer surveys is on the duration of the inflation uptick. The tariff should only have a one time increase in the inflation rate, but will have a lasting impact on the absolute level of prices as long as the tariffs remain in effect. So we're still just like the Fed. We're in kind of wait and see mode and kind of see exactly what the impact will be on the economy and consumer behavior.

 Lowe: Consumers have reason to worry about prices because inflation is up, but they consistently overestimate the level of inflation. You know, University of Michigan does a well-watched survey and they show very high expectations. You know, partly because of the impact of tariffs. You know, one year inflation expectations have hit 7% I don't think we're going to have 7% inflation. That seems too high. And we really don't know the impact yet. You're seeing some increases but so far it's more muted. That may change over time. And what the Fed is really worried about is embedded inflation expectations because that can change behavior. When people start to hoard they buy forward and they can push up prices. And companies raise prices because people expect them to go up.

Branstad: I keep hearing, a lot more talk about stagflation. Is that a legitimate concern?

White: Yeah, I think it it's definitely a legitimate concern. Tariffs. So they'll be at their highest level in nearly 90 years. Currently going to project to be about 14 to 15%, if not higher. And tariff hikes like this are usually stagflationary shocks, putting upward pressure on prices and downward pressure on economic growth. I think the market maybe underestimating these effects. So the Fed is in a difficult policy spot trying to find a balance between its dual mandates, inflation and employment. Which effects we will see first and which will have the greater impact still yet to be seen. But I think for now, the Fed is going to focus on inflation, keeping rates higher for longer unless we begin to see some weakness in the labor markets.

Branstad: All this policy uncertainty, many economists have been lowering their global growth forecasts. David, what are what are your expectations around that especially focusing in on Europe and China.

Spangler: Yeah, I would expect slower global or global growth overall as a result of more deglobalization and higher tariffs overall, regardless of where they end up settling out, if they're higher, it's going to restrain growth to some extent. I think the tariffs are bad for everybody, but they may be worse for Europe and worse for China overall relative to the U.S. China's also exporting out quite considerably to the emerging markets. In the emerging markets, they don't have a way of fighting back, as well. So that that's going to be, going to hurt the emerging markets. I think that overall, there's a long-term secular reasons why growth would be a little slower as well.

Lowe: Yeah. I struggle to see how China really does well in an environment where there's trade conflict because they're very dependent on trade. They have a underdeveloped consumer economy and exports drive their economy. And you know, if we raise tariffs, they typically have gone to other markets. And then there's conflict there. So, I think, world of trade conflict, it's going to hurt both China and as you said, Europe, because they're very dependent on trade.

Branstad: So, there's been a lot of attention paid recently, again, to, essentially endless U.S. budget deficits, with the U.S. appearing to be on an unsustainable path with rising debt levels. What are some of the consequences of that?

Lowe: Well, we are on a unsustainable path. You know, debt to GDP is about 100%. It's expected to go up to 120%. And that would be a record level higher than where we were coming out of World War II after financing the war. And that's really a consequence. Right now we're running budget deficits of 6 to 7% of GDP, you know, versus what used to be kind of 2 to 3%.

And markets are starting to pay more attention. You look at risk premiums and interest rates. It's called the term premium. That has driven much of the increase in long term rates, particularly like in a 30-year Treasury. So, what does that mean? It means higher financing costs for companies, higher, you know, mortgage rates, staying high, business loans, car loans.

Branstad: Kent, how do these budget deficits impact the Treasury curve?

White: The primary impact on the Treasury curve is an increase in the term premium, which is basically the extra amount you need to be paid to lend money to the government for longer periods of time. This term premium has been rising since the beginning of the year. You can see the difference between 30-year and five-year Treasury yields. At the beginning of the year, that difference was about 35 basis points, or 0.35%. It's currently 95 basis points. So, the term premium has increased by over half a percent. There's a lot of factors that affect the term premium, but the one that's probably had the greatest impact is the size of the fiscal deficits that we're likely to see the next few years.

Branstad: How about credit markets? You know, like investment grade and high yield corporates. Have they been as volatile as the equity markets have been this year? And what kind of are your forward-looking expectations there?

White: We've definitely seen volatility in the credit markets especially in the second quarter. We started the year near historical tight levels in investment grade credit. We've seen a significant amount of volatility related to trade policy during the month of April and have recently returned to levels we saw back in February. So it's been a back and forth one way trip (two-way a trip, I guess). We've seen the same volatility in no matter the credit asset class, we've seen it in high yield, other credit markets like emerging market debt and even in municipal debt markets. So, we expect to see volatility persist through the year. Not to the degree that we just saw, but going forward, I think what we're likely to see is a investment grade credit and other credit markets stay in a rather narrow and rich trading range until we begin to actually see some weakness show up in the hard data, which might take a few more months.

Branstad: With credit markets remaining rich at least versus their history. Are they still attractive investments at these levels? With maybe, perhaps with the yields that they can provide?

White: Ah, yes. With the recent heights, investment grade yield spreads still appear fully valued to us. So, we don't feel like we're getting compensated for all the risks and uncertainty that are currently in the market, particularly economic risk. And valuations are very tight. However very strong demand for yield continues to keep spread levels at these rich levels. And we don't anticipate that that's going to change. So that's the foundation of what's keeping things as rich as they are. It's just this huge demand for yield, which is understandable. We haven't seen yield levels like this in 15 years or so. And we believe from our yield perspective that fixed income, no matter what asset class, is still at attractive levels given our kind of forward outlook.

Branstad: Looking back to April, David, U.S. equities intraday at least hit bear market levels. But then they rebounded very sharply. What was driving that rally and is that sustainable? Is that something you can see going forward?

Spangler: Uncertainty caused the market drawdown and a removal of some level of uncertainty allowed them to rebound. I think that if we don't see ourselves in a more protracted and expansive war in the Middle East as an example, then that uncertainty will also begin to abate as well. The challenge is, is that the starting point is difficult from this point on forward. Right now, we’re all-time highs or near all-time highs, valuations are on a longer term basis, relatively rich in the equity markets. And so to be able to move from here in a meaningful way is challenged. So I think that we could find ourselves overall a little bit capped and sort of move up and down a little bit sideways. But I don't necessarily see us, a sell off, from this point.

Lowe: Are you concerned about breadth? It's still relatively narrow.

Spangler:  Yes or no, which is to say that we are at unprecedented levels and that does present some level of risk within the market. If you're indexed within the S&P 500, you have to be very conscious of what's happening within the area of Mag seven, for example. And that can also be a challenge too. So, you have to watch to see if there's any type of a material shift in the narrative, then assess whether you think that this is a blip or a long or longer term type of a sea change that would require some action to be taken in terms of the overweight and concentration in the market.

Branstad: David, what then would it take for markets to actually broaden out?

Spangler: Within small-caps and mid-caps, it would require, I think, a market weakening, potentially recession and then a catalyst off of that. So let's say the Fed were to come in and cut interest rates. If they do, that would be helpful to small-caps. In particular, they have considerably more debt. They're burdened with the debt in terms of their margins. And so that would be a relief, in part.

Branstad:  Valuation multiples fell sharply in the spring before recovering, but they are still below their recent peak. Do you think valuations look attractive at all or would you consider them too rich?

Lowe: Valuations to start the year were quite rich for versus history. And then they corrected in April, as you said, before recovering. But they still remain above the long-term median. The S&P 500 trades at price to earnings ratio about 23 times. And earnings variability has gone down. And so it's really driving the valuation. And the Mag seven has got as expensive as 40 times forward earnings. But there's a reason they get those high multiples because growth is very strong and they take a lot of money and their margins are very large.

You know, small-caps are a little tougher overall to value because about a third of them have negative earnings. And they're, you know, around, you know, the average right now. And European and Asian stock valuations are substantially lower. And they can look attractive. You see money flow there because of valuations. But there's a reason that U.S. stocks are more highly valued is they're higher quality, a better long-term growth.

Earnings over the long run drive markets. You know analysts this year have been revising earnings estimates downward. That's partly because of the tariff uncertainty. You know Mag seven, mega-cap tech is expected to grow somewhere around 20%, maybe a little bit less.

And if you exclude that from the S&P 500, earnings growth is much weaker. Kind of flat to 5% depending on the estimates. So, the S&P is still very dependent on technology. And if you look at small-cap earnings, they've been stagnant. They haven't moved at all. If anything they're kind of leaking downward. So overall I think earnings are solid.

Branstad: David, international markets have generally outperformed U.S. markets this year. Why do you think that has been the case?

Spangler: International markets have outperformed the domestic market. So throughout the through the year, as both the developed markets internationally and the emerging markets. However, there was a few different reasons. One of the reasons is that earlier in the year, we had an announcement out of China on DeepSeek that called into question some of the over, you know, the large spending we had in CapEx within the Mag seven and whether that was really going to actually be monetized and was going to actually, pay out.

I think that also too some of the some of the benefit to international markets have come from announcements out of Europe and in particular Germany, that they're going to suspend some debt levels that they were restricted in, in terms of spending and spend more on defense and some more on infrastructure.

But that's going to take quite a bit of time to roll out as well. And also, it's questionable exactly what type of impact overall that's going to have, within the European markets. You know, I think that half of the outperformance this year has been due to the dollar.

If we continue to see dollar depreciation, that could be a headwind to domestic markets relative to international markets.

Branstad: Geopolitically, things are quite active. So, we say there's wars in Europe, in the Middle East, continued tensions in Asia. How much has that impacted markets so far this year?

Lowe: Short term it's impacted markets. But doesn't drive markets over the long run. The exceptions are where you get supply constraints. Where there are impacts, it's like the oil embargo in the 1970s where you have severe supply constraints and particularly over energy. You know, that's a bit of a risk now with, you know, activity in the Persian Gulf. So, there's potential to impact oil supplies. It doesn't look like that's going to happen, but it's still a risk. You know, in Europe, the war in Ukraine really hasn't impacted markets.

Branstad: Let's talk a little bit about some of the key issues you're focused on, both your concerns and where you're seeing positives. Kent, could you start us off?

White: My main concern really still is the whole tariff issue. Mostly because of the impact it could have or will have on businesses and consumers. It's also likely to have the greatest impact on earnings the rest of the year as well.

Just, and it's really the source of all the uncertainty that we've had or most of the uncertainty that we've had so far in the markets, equity and fixed income so far in 2025. So, I think it's still probably the risk that we need to kind of keep our eyes on the most and see how that all plays out.

Spangler: You know, I would think also too, with regard to the tariffs is if they do then begin to affect corporate margins, then that can begin to flow into employment. So, it's not just a slowing of hiring, but then it's not hiring. And then it comes into layoffs. And that's really what we have to be very conscious of because that will then result in economic slowing within the U.S. The consumer then would pull back as well. Right. So, it becomes a cycle of tariffs raises prices. The prices cause margins to depress that can then cause cost cutting, which is jobs, which then can lead to pullback in consumer spending. And then we do have an issue. But it all comes back to tariffs, as you mentioned.

Lowe: Yeah, I think longer term the deficit is the big issue the level of debt. And that may not be an issue for five years, 10 years. But it will be some day unless we change it. And then we hit this tipping point where markets force the U.S to get its fiscal house in order. I would also just look on the positive side of what could go right.

Branstad: I was hoping there would be some positives.

Lowe: That, you know, you can get trade agreements and we could get to a situation where we have low, you know, so higher tariffs I mean the before but not extreme levels. And you get the steady state and people adapt and then out of tariffs you get revenue. And that kind of helps the deficit too, it’s not going to solve the problem. But it helps.

And the other is just what we've talked about is just deregulation. You know, changes in the tax code and other policy initiatives take time to work through. So, I think that in, you know, next year and beyond could be significant for growth.

White: Yeah. And with regard to the tariff situation, I mean, presumably the whole reason that we're doing this is to negotiate a better position for U.S. companies and trade. So, that might take a little bit longer. The tariffs are immediate, but over time, maybe those positive benefits might actually show up.

Branstad: Let's finish today by, going through our mixed asset positioning. Steve, we why don’t you start and kind of broadly give us alayout of how you're positioned.

Lowe: Yeah. More broadly, we are moderate, moderately overweight equities. So, we still have a little bit of a pro long term risk stance. We're underweight fixed income versus peers, but we're, you know, not straying too far from kind of, you know, neutral because there is a lot of uncertainty. But we have maintained that overweight to equities. I think the threshold to get on underweight is pretty high --as timing to get back in is difficult.

Branstad: David, how about equities real quick. Where within the equities where you overweight and underweight?

Spangler: As Steve just mentioned we have a modest overweight to equities. Within equities, we remain overweight large-caps and mid-caps. Within large-caps, it's more in the large-cap tech in growth areas. Generally speaking within our asset allocation products, we are modestly but underweight small-caps. But overall, we're also been adding into private equity. So, the private equity is generally more small-cap. So, as we've taken away from small-cap public equity we've added to small-cap private equity. You know, we did take an opportunity to bring in a little bit our underweight to international. So, we had you know about just call it on average about a 4% underweight. Now it's about a 2% on a weighting in general.

Branstad: Kent, fixed income.

White: So yeah, on the fixed income side we remain defensively positioned, given risks which we believe skew to the downside and where valuations are currently, we're still have a little bit of a up and quality bias in our portfolios. So, you know we have a little bit more U.S. Treasuries in our portfolios. A little bit more weighting to mortgage backed securities, which seem attractively valued right now.

And just within corporate’s just, more of a higher rated up and quality, more defensive sectors. So, by defensive sectors, I mean kind of looking out at what we see as the main risk is tariffs. So, we're favoring sectors that are less exposed to tariffs, and to an uncertain, macroeconomic environment. And those sectors are sectors like cable, telecom, U.S. utilities.

And we're underweight industries that are a little bit more exposed to the tariff situation in a weak economy like consumer or retail sectors and autos.

Branstad: Thank you. Thanks to all of you for your great insights today. And thank you all for joining us. We'll see you again soon. Goodbye.