With cherry blossoms in full bloom this time of year, many residents of Greater Washington have a sense of certainty that spring has finally arrived. However, a sense of uncertainty is rising among investors as evidenced by a 4% decline in the S&P500 in the past three months and an unsteady beginning to the second quarter.

As we look beyond a difficult first quarter, we acknowledge that a wide range of outcomes remain possible this year, leaving many investors considering a more defensive approach to stocks and bonds. Despite these near-term concerns, this client letter will outline our approach to maintaining exposure to high-quality securities with the potential to grow and accumulate wealth for investors over multi-year periods.

Policy and economic uncertainty

A new administration and a new set of policies related to tariffs and government spending are raising difficult questions for a wide range of product and service companies, along with a significant number of federal workers and contractors. Regarding tariffs, optimists may point to favorable market performance in the last trade war of 2017-19—and a sense that companies may adapt and overcome new policy changes. However, more cautious investors see a larger and more complex scale for the 2025 tariff proposals announced last night which have been additive to prior tariff levels, suggesting additional upside risks for inflation and downside risks for growth.

Federal layoffs may present a different situation, since we have very few historical examples for comparison. At a minimum, we would expect rising unemployment to depress economic growth for parts of the country with high concentrations of federal workers such as Washington, D.C.
As tariffs and job losses rise, we are watching for early signs of a broader impact on the economy. So-called “soft data” such as consumer and manufacturing surveys (what business leaders and people are saying) paint a negative outlook, while the “hard data” (what they are actually doing with dollars and cents) suggest otherwise.

Consumer sentiment is falling, but consumer spending has generally maintained, despite pockets of disappointment for discretionary companies. For manufacturing, surveys and hard data suggest a stable pace of growth so far this year. However, we could see a corrective move to the downside as tariffs and job losses mount for those in the automobile and airline industries.

As these policy and economic changes unfold, the Federal Reserve is threading a needle between preventing a tariff-induced wave of inflation, while also avoiding a layoff-driven recession. For the moment, Jay Powell and the Fed appear to be comfortable that current interest rates (around 4%) are high enough to limit inflation, but not too high to maneuver lower should unemployment rise.

At current interest rate levels, we continue to favor U.S. Treasury bonds and high-quality corporate bonds as attractive offsets to equity volatility. From a performance perspective, the 2-3% total returns on high quality bonds in the first quarter support the benefits of diversified portfolios.

Equity markets react

While bonds performed well this quarter and broader stock markets declined in the mid-single digits, this relative calm obscures a double-dip equity correction starting in mid-February. That’s when anxiety about trade policies and the economy spilled over into equity markets, triggering ~10% peak-to-trough declines in mid- and late March.

So, what to make of the move lower in stocks? On the one hand, bullish investors see companies continuing to grow earnings, while stocks are now trading at much more reasonable levels compared with recent history. However, bears point to inflation and recession risks that could torpedo earnings growth. As we go to print today, markets are digesting (or rather have indigestion) as they attempt to calculate the potential economic effects of the administration’s initial tariff stance announced after markets closed yesterday.

How are we positioning?

While the first quarter has been challenging for risk assets, we continue to take a long view and lean on decades of performance in which corporate profits grew faster than inflation, and stocks chased these profits to higher levels. We also favor diversified portfolios and ongoing rebalancing. In the first quarter we rebalanced several of our top equity holdings, as stocks traded in elevated ranges, and redeployed proceeds into high quality bonds.

Additionally, we continue to recommend a fully invested approach that avoids the pitfalls of market timing. Long-term performance data suggests that missing even a few of the best days of the market (by temporarily moving out of stocks) may meaningfully depress total returns. Even as tariffs and federal layoffs weigh on companies and sentiment, we would rather be invested in the durable growth prospects of companies over a long-term recovery and expansion than attempt to decipher exactly when to re-invest amid short-term noise and volatility, both of which are abundant at this moment.

As we invest in the face of uncertainty this year, we expect the unexpected. However, we maintain high conviction in a diversified portfolio of defensive and growth-oriented companies, along with high-quality fixed income to help weather storms that may yet come, while also positioning portfolios to be well prepared for clearer skies ahead.

We wish you all a happy spring.

Michael Bailey, CFA
Director of Research

Michael Mussio, CFA, CFP®
President

Important Disclosure Information: 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 FBB Capital Partners [“FBB]), or any non-investment related content, made reference to directly or indirectly in this commentary will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. 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 commentary serves as the receipt of, or as a substitute for, personalized investment advice from FBB. FBB is neither a law firm, nor a certified public accounting firm, and no portion of the commentary content should be construed as legal or accounting advice. A copy of the FBB’s current written disclosure Brochure discussing our advisory
services and fees continues to remain available upon request or at www.fbbcap.com. Please Remember: If you are a FBB client, please contact FBB, in writing, if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services, or if you would like to impose, add, or to modify any reasonable restrictions to our investment advisory services. Unless, and until, you notify us, in writing, to the contrary, we shall continue to provide services as we do currently. Please Also Remember to advise us if you have not been receiving account statements (at least quarterly) from the account custodian. Historical performance results for investment indices, benchmarks, and/or categories have been provided for general informational/comparison purposes only, and generally do not reflect the deduction of transaction and/or custodial charges, the deduction of an investment management fee, nor the impact of taxes, the incurrence of which would have the effect of decreasing historical performance results. It should not be assumed that your FBB account holdings correspond directly to any comparative indices or categories. Please Also Note: (1) performance results do not reflect the impact of taxes; (2) comparative benchmarks/indices may be more or less volatile than your FBB accounts; and, (3) a description of each comparative benchmark/index is available upon request.