Q3 2025 U.S. economic outlook: Strong winds, deep roots

Macro house view

• Economic growth: Consensus 2025 U.S. real gross domestic product (GDP) growth has declined to 1.4%, which seems an appropriate base case.¹ Growth drivers have narrowed, although households remain well-positioned to carry the load. The Big Beautiful Bill will likely offset only half of tariffs’ tax impact, pushing the federal government into moderate fiscal tightening.
• Labor market: The labor market appears in balance. Dynamism is lower—job growth has slowed and quit rates have declined—but layoffs remain scarce. The immigration crackdown is set to reduce the flow of labor supply, weighing on economic growth but potentially tightening the labor market and offering further support for steady income growth.
• Consumers: Spending slowed to start 2025 as consumers braced for inflationary tariff impacts. Strong earnings growth, running roughly 1% above 2017–2019 levels, continues to presage resilient consumption despite increased caution driving the savings rate from 3.5% to 4.5%.^2,3
• Businesses: Business confidence has faded, especially for multinationals exposed to foreign trade. Capital investment intentions have declined, although analyst capex estimates have not. The Mag 7 will likely spend $650 billion over the next year, offering a powerful secular tailwind.¹
• Housing: Home price growth is wavering as existing home inventories have finally increased, especially in Sun Belt and Mountain region markets. We expect prices to fall modestly, with significant regional dispersion, and residential investment to detract from growth in 2H.
• Inflation: The inflation picture improved in Q2, although tariff effects will likely reverse much of that progress in Q3. Lagged housing costs have helped temper official data, and services price growth has moderated, but underlying pressures in goods inflation are beginning to emerge.
• Monetary policy and interest rates: While tariff-driven inflation has yet to materialize, the Fed remains convinced it will, hamstringing their ability to respond proactively to signs of economic weakness. Markets expect the next cut in Q3, but sticky inflation data risks scuttling that view. Policy uncertainty and growing concerns around fiscal sustainability are likely to keep upward pressure on the term premium and long-term yields.

Asset class views

• U.S. equities: U.S. stocks entered a bear market in Q2, only to end the quarter with the S&P 500 at a fresh all-time high. Given a weaker economic base case and the development of numerous downside risks, a forward price-to-earnings (P/E) ratio near 22x appears to signal complacency.¹
• Core fixed income: Bonds lose efficacy as a shock absorber when stagflationary risks predominate. Although the Bloomberg Agg enjoyed its best first half since 2020, its correlation with equities remained positive. Diversification will likely need to be found elsewhere.
• Cash: Higher inflation risks eating into real returns, and the Fed is more likely to cut than hike. Cash has a place in portfolios again, but 1%–2% real returns are not the goal for most investors.¹
• Private equity: Mergers and acquisition (M&A) activity has been bogged down by policy uncertainty, delaying the anticipated recovery in capital velocity. Private equity still offers a compelling alternative to expensive, trade-exposed large-cap stocks, but segment selection is critical. Lower valuations, leverage and international exposure all favor the middle market over mega-cap funds.
• Private credit: Spreads tightened alongside public markets over the past two months, but private credit retains its yield premium. Credit looks particularly compelling in a higher interest rate world, and private credit offers investors more yield for similar levels of default risk.
• Commercial real estate: Market sentiment was optimistic coming into the year, but as in the corporate world, the rebound in activity has been delayed. Price declines plateaued, but property yields and mortgage rates remain on top of each other. Income growth will dominate returns for the foreseeable future, elevating CRE debt as a compelling investment opportunity.