December 2025 Market Update

In our previous market update we discussed the need for the Fed to restart quantitative easing, and at the December FOMC meeting they did just that. Although the asset purchases are small, this change in monetary policy will boost the total monetary base, reserves, and liquidity, but it will not prevent employment growth from declining, which may force the small asset purchases (QE), to become larger as employment weakens. Investors should keep in mind that QE began in 2008, and homebuilding still didn’t pick back up until 2011.

The U.S. economy currently functions based on the governments reliance on fiscal dominance to keep asset prices such as stocks and real estate elevated. This policy is holding inflation expectations and interest rates up until employment declines enough to drag prices and interest rates lower, and in the process crowding out the private sector, and shrinking the middle class.

Investors are hoping this fiscal dominance-based economy leads to a weaker dollar, boosting stock and real estate prices in 2026, but we are skeptical this continues to work as employment growth is beginning to decline.

In 2025 the rest of worlds major stock market indexes outperformed the U.S., and we believe that occurred because the market sniffed out that U.S. economic policy is not creating wealth but destroying it by devaluing its currency to prop up asset prices while employment growth and wages stagnate. This helps explain golds extreme outperformance of the S&P 500.

Chart Description: S&P 500/Gold ratio < 200 month moving average has historically signaled a decline in U.S. homebuilding/housing starts. S&P 500/Gold Ratio: Blue, U.S. Housing Starts: Orange, U.S. Home Sales: Green

So long as the U.S. economy is run on fiscal dominance American workers purchasing power will likely continue to decline along with real growth, employment, interest rates, and real wages, making the American worker more dependent on government to afford basic needs to live. High nominal growth, low real growth like Japan.

The market is beginning to sniff this out. The U.S. economy cannot have real capital investment without savings, but as U.S. political leadership continues to try and convince the investing public its possible, a purchasing power crisis could ensue in 2026, leading global investors to sell U.S. assets as interest rates are cut and stimulus is provided, reflecting reduced confidence in U.S. fundamentals due to a weakening employment picture and currency as the current fiscal dominance based economic policy is exposed as protecting asset prices in lieu of the real economy.

It will not become politically viable to end the fiscal dominance-based economy until the policy backfires as described above. Removing the U.S. from a fiscal dominance-based economy means credible fiscal discipline, independent monetary policy focused on price stability, a shift from asset inflation to productivity growth, lower structural inflation, stronger currency, and a revival of the private sector and the middle class.

Current political leadership shows mixed signals about embracing fiscal dominance. On one hand the administration demands interest rate cuts and executive spending for growth and reindustrialization, but on the other total federal outlays are down twenty percent year over year to reduce the deficit.

Ending the current fiscal dominance-based economy would be less exciting in financial markets but healthier for society through slower asset price growth, stronger real incomes, and an economy driven by production and innovation rather than debt and stimulus. At some point if the economy becomes weak enough and markets stop responding to interest rate cuts, more debt, and stimulus, the fiscal dominance-based economy may become politically unpopular, and the pendulum may swing the other way.

Wall Street is bullish again for 2026. Most analysts are expecting the S&P 500 to rise ten percent or more. Wall Street analysts focus on earnings not the underlying economy. Our contention is that earnings are overstated because the underlying economy is much weaker than currently meets the eye. Below is a chart we created to depict Wall Street analysts thinking that stocks rise ten percent every year because of fiscal dominance and constant currency devaluation. It’s not hard to be a bullish Wall Street analyst, with a fiscal dominance-based economy purposed to keep asset prices rising, they’ve basically become government employees.

Our MacroVex Capital, S&P 500 fair value estimate model currently indicates fair value for 2025 earnings of $272 and 2026 earnings of $312 between 4,155 and 4,920, down -39% and -28% from the S&P 500, 2025 closing price of 6,845.

We believe 2026 will be full of economic and political surprises that will force major fiscal and monetary changes that provide some great investment opportunities. Our recommendation is to position portfolios to endure a recession, in a defensive manor, risk off, cash, T-bills, money market funds, short to mid-term 1-10 year U.S. treasury bonds and 10-30 year U.S. treasury bonds at positive carry, 10-year minus 2-year yield curve re-steepening, 10-year minus 3-month yield curve re-steepening, Short USDJPY from 153, and select low duration U.S. equities.

Getting paid to wait for growth assets to be priced at discounts, while being positioned to benefit from bond price appreciation as interest rates decline from downward economic pressure, continues to be a profitable and rewarding strategy. We remain patient and focused on managing risk through 2026. Happy New Year!

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