Reflecting on market performance through the end of 2025, the annual recap and forward outlook sound strikingly familiar to the previous year. Once again, market returns diverged from many forecasts offered at the beginning of the year.
Entering 2025, investors were coming off two consecutive years of 20%+ returns for the S&P 500 – an outcome that seemed unlikely to be repeated. The prevailing expectation was a reversion toward more muted, long-term average returns. Instead, equities delivered a third consecutive year of double-digit gains.
Strong Returns, but a Shift in Leadership
Strong corporate earnings, enthusiasm for Artificial Intelligence (AI), and the announcement of and hope for future rate cuts positively influenced markets last year. While U.S. equities performed well, the global landscape changed in an important way. The S&P 500 returned approximately 18% in 2025, while developed international markets gained roughly 31% as measured by the MSCI EAFE Index, and emerging markets rose approximately 34%. This marked the first time in nearly 15 years that some international markets meaningfully outperformed U.S. stocks.
What Drove Returns in 2025
The defining feature of 2025 was not just strong performance but the improving composition of returns[1]. Earnings growth, rather than valuation expansion, contributed more significantly to index performance. In 2023, approximately 27% of the S&P 500’s return was attributable to earnings growth, with the remainder driven largely by rising multiples. That figure rose to approximately 55% in 2024 and nearly 80% in 2025[2]. Most economists surveyed expect earnings growth, rather than further multiple expansion, to remain the primary driver of returns in the year ahead, though economic forecasts are subject to uncertainty and revision.
Broader Participation Beneath the Surface
As earnings growth broadened, so did market leadership. Seven of the eleven sectors in the S&P 500 posted double-digit returns in 2025, suggesting that gains were not confined solely to mega-cap technology companies. Financials, for example, may have benefited from easing monetary policy and increased capital markets activity[3].
As AI innovation continues to develop and potentially enhance productivity across a wider range of industries, market leadership could continue to broaden. A less concentrated market with multiple drivers of return could represent a healthier and more resilient risk-return profile for investors.
Volatility Returns
In 2025, strong returns were accompanied by a meaningful increase in volatility. Historically, the S&P 500 experiences an average intra-year drawdown of roughly 14%. In 2023 and 2024, drawdowns were unusually shallow, at approximately 10% and 8%, respectively. In contrast, markets declined nearly 19% in April 2025[4].
Heightened market volatility may persist as markets react to geopolitical uncertainty, domestic policy announcements, and evolving economic data. Questions surrounding Federal Reserve independence, the potential impact of tariffs on inflation, the pace of rate cuts, and the trajectory of the national debt contribute to a less predictable market environment. Additionally, some market observers have raised concerns around elevated valuations, market concentration, and the circular nature of AI-related capital investment, which may make investors anxious about the persistence of equity returns in 2026.
Why Diversification Mattered
In this environment, diversification provided beneficial exposure to multiple market segments. International equities outperformed U.S. stocks for the first time in over a decade. With multiple sources of uncertainty heading into 2026, diversified portfolios may provide more durability than those concentrated in a narrow set of outcomes or regions.
The Economic Backdrop: Resilient, but Uneven
In 2025, economic growth helped support market performance. Real GDP growth reached a 4.3% annualized rate in the third quarter, the fastest pace in two years, during a period that included the longest government shutdown on record. Growth was supported by consumer spending, trade dynamics, business investment, and productivity gains[5].
Recent GDP data are encouraging given the contraction in net immigration seen in 2025[6]. Slower labor force growth combined with strong output suggests productivity gains are playing a larger role in economic expansion. Productivity growth is an important factor in improving living standards, corporate profitability, and long-term economic growth potential. Looking ahead, tax cuts and a less restrictive regulatory environment may positively influence U.S. economy growth[7]. The path of inflation and unemployment will likely influence Federal Reserve policy decisions regarding interest rates.
Key Risks Heading into 2026
Despite positive economic indicators, vulnerabilities remain, particularly in the labor market. Excluding the pandemic-era recession, 2025 marked the weakest year for job growth since the early 2000s. Hiring slowed, job openings declined, and large employers announced layoffs, increasingly affecting white-collar workers.
The unemployment rate has trended up but changed relatively little as slowing job growth has been offset by reduced labor supply growth, driven in part by changes in immigration flows. Underlying labor market challenges may become more apparent in 2026 as slowing wage gains trends, potential tariff impacts, and affordability issues evolve.
What This Means for Investors
In sum, 2025 delivered strong but volatile returns alongside shifting leadership. There are reasons for cautious optimism, including earnings-driven returns and productivity improvements but potential risks lie in labor-market weakness, political uncertainty, and high valuations.
In this environment, diversified portfolios, realistic expectations, and a focus on long-term fundamentals may provide a framework for investors navigating the year ahead.
Fixed Income Update by Olivia O’Toole
Over the past few years, cash has regained popularity among investors. As interest rates increased, money market funds, short-term Treasuries and high yield savings accounts began offering yields not seen in recent years. As a result, many investors became more comfortable holding larger cash balances given the combination of attractive yields and principal stability.
Cash often serves an important role in a portfolio, especially for liquidity and short-term flexibility. That said, there is a particularly applicable and often overlooked risk associated with holding significant cash allocations: reinvestment risk.
Reinvestment risk refers to the possibility that when rates change, the income earned on cash and other short-duration investments may decline. Because these vehicles reset frequently, their yields typically fall relatively quickly once the Fed begins cutting interest rates. (The opposite is also true – increases in interest rates typically drive short term yields higher).
This dynamic became evident beginning in 2024. The Fed started cutting rates towards the end of 2024 and continued into 2025. As short-term rates moved lower in response, yields on money market funds and similar investments decreased accordingly. Meanwhile, in 2025, the US aggregate bond market, as measured by the Bloomberg US Aggregate Bond Index, had one of the best performances since 2020, supported by both consistent income and significant price appreciation as interest rates declined.
This divergence highlights an important consideration regarding cash holdings. While its principal value may feel stable, the income generated on cash and cash-like investments can decline when interest rates fall, not because of market losses but because reinvestment occurs at the lower prevailing rates.
One potential approach to help manage this risk is through diversified fixed income exposure. Bonds with longer dated maturities, or bond funds investing in longer dated bonds, may offer the potential for higher yields over extended periods, which could provide more income stability regardless of short-term rates movements. Laddered bond strategies, which spread bond maturities over several years, can also provide regular reinvestment opportunities without overconcentration in any one interest rate environment, though they do not eliminate interest rate risk.
We view cash as an appropriate tool for liquidity and short-term needs, not necessarily a comprehensive long-term fixed income strategy. Our focus remains on constructing fixed income portfolios designed to generate income, manage risk exposures, and adapt as the interest rate environment evolves, without trying to predict every move the Fed makes.
Equities Update by Dmitry Popov
The fourth quarter of 2025 demonstrated that markets can advance even amid significant uncertainty. Investors navigated the longest U.S. government shutdown in history – a 43-day closure from October 1 to November 12 that furloughed hundreds of thousands of workers and delayed official economic data. Combined with ongoing tariff uncertainty, debate about valuations in AI “bubble,” and three consecutive years of strong equity returns, many market observers anticipated potential weakness. Instead, assets advanced. U.S. stocks, as measured by the S&P 500, returned roughly 2.7% in the fourth quarter, while global benchmarks gained approximately 3-5%, leaving all major equity regions in positive territory to close the year.
To understand why that matters, it helps to rewind. A defining episode of 2025 occurred in early April, when new U.S. import tariffs – the so-called “Liberation Day” regime – triggered the sharpest equity sell-off since the pandemic. Developed market stocks fell more than 16% in early April, and the S&P 500 experienced a drawdown of just over 18% from its peak. Such drawdowns illustrate the potential for significant short-term losses in equity investing. Supported by economic resilience, moderating inflation, and a wave of AI-related capital spending, global equities not only reclaimed their losses but went on to post a banner year. The S&P 500 finished 2025 with an approximately 18% total return, its third consecutive year of double-digit gains, while MSCI ACWI returned about 22%, developed ex-U.S. markets roughly 31%, and emerging markets around 34%. For the first time in roughly two decades, the U.S. market underperformed several other major regions – a reminder that international diversification can provide different return patterns, though it does not guarantee superior returns or eliminate risk.
In that environment, the experience of 2025 may suggest the potential value of maintaining investment discipline. Generally, investors who fared best last year were not the ones who guessed the timing of tariffs, shutdowns, or Fed moves, but those who maintained diversified portfolios and rebalanced during periods of market stress, which offered exposure to the subsequent recovery. After three strong years for U.S. large caps, some investors may consider exposure to market segments where valuations may offer different risk-return characteristics – including quality businesses with durable cash flows outside the narrow group of AI focused companies, and across regions that have experienced extended periods of underperformance. This is not a recommendation to reduce equity exposure or avoid U.S. markets, but rather a consideration that market cycles and investor sentiment can shift significantly. If 2025 was a year when equity markets delivered strong returns despite numerous concerns, 2026 may present different opportunities and challenges where disciplined investing approaches may prove valuable.
Real Asset Update by Katherine St. Onge
After a challenging adjustment period following the 2022–2023 tightening cycle, real assets and real estate showed signs of stabilization and early recovery in 2025, potentially setting the stage for a more constructive environment ahead.
Commercial real estate values stabilized after finding a trough, contributing to an increase in transaction volume. Modest appreciation began in 2025 and could potentially continue into 2026 given several supporting conditions. Falling from the 2023 peak, new supply continues to decrease, impacted by elevated construction costs and high interest rates. While interest rates declined in Q4 2025, uncertainty remains around the future path of monetary policy. However, limited new supply and the high cost of homeownership may support property fundamentals, particularly in multi-family, which some forecasters anticipate could see rent growth in the coming years, though such projections are inherently uncertain.
Risks to the real estate market remain, including the potential for tariffs to increase construction material costs, the possibility of higher for longer interest rates, and immigration policy changes that could limit construction labor availability and reduce demand for workforce housing.
Reduced housing construction activity weighed on timber prices last year. However, tightening supply could potentially reverse this trend, though trade-related issues may create continued volatility in the sector. The agricultural sector, particularly row crops, has faced pressure from high input costs, weak prices, and trade uncertainty. Organic crops, however, have seen relatively stronger demand and pricing as consumer preferences evolve.
Looking ahead to 2026, real estate and real assets may be positioned for gradual improvement rather than rapid appreciation. Stabilizing values, improving transaction activity, and constrained supply could support income-oriented assets, particularly in residential real estate, though numerous factors could alter this outlook. Within real assets, timber may potentially benefit from tightening supply conditions, while agriculture is likely to remain bifurcated, with specialty and organic segments periodically outperforming traditional row crops. Interest rate policy, trade developments, and labor market trends will remain key variables shaping outcomes across the sector.
Private Equity Update by Aaron Deitz
As we close the books on 2025, private equity markets appear to be on stronger footing than in recent years. The year experienced volatility, beginning with renewed optimism, facing midyear challenges tied to tariffs and broader economic uncertainty, and ultimately ending on a more constructive note. While full-year data is not yet available, we observed a notable increase in deal activity and exit momentum. Deal value surpassed $1 trillion, the second highest year on record. Additionally, the IPO market rebounded meaningfully with several notable transactions.
While macro uncertainty has not disappeared, expectations for GDP growth in 2026 suggest that the improving conditions seen late in 2025 could potentially continue. Private market participants have grown more optimistic as financial conditions have eased, and capital markets have shown greater stability. These dynamics may support a gradual easing of the liquidity constraints that have affected the asset class over the past several years.
Looking ahead, several trends remain top of mind for us at BSW. Dispersion in performance between top-performing and bottom-performing managers continues to be significant, reinforcing the importance of disciplined manager selection and due diligence. At the same time, liquidity management remains a key focus. Even if distributions improve in 2026 as some expect, we anticipate that secondary transactions and continuation vehicles will remain important components of the private equity ecosystem. Both have played an important role in providing liquidity during periods when traditional exit paths were constrained.
Overall, the outlook for private equity in 2026 appears constructive relative to recent years. Potentially improving deal flow, a gradual reopening of exit channels, and more favorable financing conditions are encouraging signs. That said, risks remain. Continued liquidity pressure, concentration of investments in AI-related sectors, the potential reemergence of inflation, and broader macroeconomic and geopolitical uncertainties all warrant careful monitoring. In this environment, we believe thoughtful diversification across strategies and vintages, combined with a focus on experienced managers with strong track records, remains important as investors seek to balance opportunity against the substantial risks inherent in the asset class.
Katherine St. Onge, Director of Investments
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Disclosures:
This blog is created and authored by BSW Wealth Partners, Inc., a Public Benefit Corporation (“BSW”) and is published and provided for informational purposes only. The opinions expressed in the blog are our opinions and should not be regarded as a description of services provided by BSW or considered investment, legal or accounting advice. Certain information sited is from third-party sources and while we believe the information to be accurate and true to the best of our knowledge, we cannot guarantee its accuracy as there may be certain unknown omissions, errors, or mistakes. Use of third-party information, including links, is in no way an endorsement by BSW. The views reflected in the blog are subject to change at any time without notice. Nothing on this blog constitutes investment advice, performance data, or any recommendation that any security, portfolio of securities, investment product or investment strategy is suitable for any specific person. Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by BSW), or any non-investment related content, made reference to directly or indirectly in this blog post will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Not all BSW clients will have the same experience within their portfolio(s) and certain topics discussed in this blog may not apply to all clients or investors. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from BSW. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. BSW is neither a law firm nor a certified public accounting firm and no portion of the blog content should be construed as legal or accounting advice. A copy of BSW’s current written disclosure statement discussing our advisory services and fees is available upon request.
Investors should be aware that real estate investments carry significant risks including: illiquidity, concentration risk, leverage risk, interest rate sensitivity, economic cyclicality, and the potential for loss of principal. Investors should also understand that private equity investments carry substantial risks including: illiquidity, leverage risk, concentration risk, valuation uncertainty, lack of transparency, limited regulatory oversight, and the potential for total loss of invested capital. Private equity is suitable only for investors who can bear such risks and tolerate long investment horizons without access to capital. Bond investments carry risks including interest rate risk, credit risk, and the potential for loss of principal.
[1] https://am.jpmorgan.com/us/en/asset-management/protected/adv/insights/market-insights/market-updates/on-the-minds-of-investors/whats-driving-stock-market-returns/
[2] https://am.jpmorgan.com/us/en/asset-management/protected/adv/insights/market-insights/market-updates/on-the-minds-of-investors/whats-driving-stock-market-returns/
[3] https://www.schroders.com/en-lu/lu/individual/insights/quarterly-markets-review—q4-2025/
[4] https://am.jpmorgan.com/us/en/asset-management/protected/adv/insights/market-insights/market-updates/on-the-minds-of-investors/whats-driving-stock-market-returns/
[5] https://www.bea.gov/news/2025/gross-domestic-product-3rd-quarter-2025-initial-estimate-and-corporate-profits
[6] https://www.apolloacademy.com/net-immigration-slowing-dramatically/
[7] https://taxfoundation.org/blog/will-the-obbba-tax-cuts-grow-the-us-economy/
