Summary
Stocks Steamroll Tariffs: Third-Quarter 2025 Review On the second day of April 2025, the Trump administration announced a range of country-specific tariffs, and a case of ‘sticker shock’ sent the stock market reeling. On the second day of August, many of those tariffs went into effect – some watered-down, but others (India, Brazil) as high as or higher than first advertised. Stocks wavered in the final three days of July and into tariff launch day on 8/2/25. But the market quickly reversed to the upside, with investors – as they have done from mid-April to the present – treating every minor setback as a buyable dip. How have investors been able to overcome their earlier fear of tariffs and in the process send the U.S. stock market to all-time highs? Many factors are contributing. There is FOMO; rallies tend to feed on themselves, as investors agonizing on the sidelines finally commit before it is too late. Then there is the AI rally, now approaching three years old (since the ChatGPT’s launch in November 2022). The AI trade has been reinvigorated, as a market initially defined by compute clusters for hyperscalers broadens out to networking, storage, API management, and compute for large enterprise and sovereign clients. Mainly, companies and consumers appear to be finding ways to live with tariffs. Digital-age companies are replacing more and more fixed cost with variable cost, preventing deep hits to margins from higher goods prices. Companies are rearranging supplier relationships to increase their ‘shop local’ quotient and maximize tax incentives. Consumers are reprioritizing their spending, largely along income-tier lines. The sense that consumers will get by without major loss of wealth and companies will get through the tariff era with profits largely intact has given stock bulls the all-clear. Third-Quarter Review The S&P 500 declined 4.8% in the first quarter of 2025 before bouncing back sharply in 2Q25 with a 10.6% gain – the best performance in any quarter since 4Q23. The S&P 500 extended second-quarter strength and appreciated a further 7.8% in 3Q25, resulting in the index being up 13.7% year-to-date at the nine-month mark. The Nasdaq Composite, which more than doubled the S&P 500’s decline in 1Q25, rose 11.2% in 3Q25 after soaring 17.8% in 2Q25. The blue-chip DJIA advanced 5.2% in the third quarter of 2025. After a turbulent first six months, the stock market mostly moved higher in steady fashion across the July-September period, which historically is a challenging time for stocks. As the third quarter unfolded, investors appeared to grow increasingly confident that companies and consumers could learn to live with tariffs, even as the blended tariff rate climbed to high-teen percentages from low single-digits a year earlier. July began with the President Trump signing the One Big Beautiful Bill Act. Bipartisan discord on the bill’s implications would percolate across the third quarter as the timeline to a government shutdown wound down. The S&P 500 rose about 3.0% in July, with stronger gains as of 7/28/25 shaved by a steep sell-off in the final days of trading ahead of the August 2 implementation of a broad range of nation-specific tariffs. The index rose about 1% during August. Although the tariff deadline had passed, negotiations were extended with China and other nations. The S&P 500 added about 3.2% in September, a month that is normally the year’s weakest for stocks. Near quarter’s end, the president announced a range of product-specific tariffs on pharmaceuticals, lumber, movies made outside the U.S., and other goods and services. After multiple years of strength, the U.S. employment economy finally showed signs of cracking in the third quarter of 2025. The U.S. federal government shutdown prevented the release of September nonfarm payrolls data, but ADP private payrolls for September declined by 32,000. U.S. employers added just 22,000 new nonfarm workers in August. Three-month average jobs growth dropped to 29,000 at August-end from 35,000 at the end of July. The unemployment rate reached 4.3% for August, up from 4.2% for July and 4.1% for June. The U.S. employment economy appears to be in a ‘low-fire, low-hire’ phase. Average hourly earnings grew 3.7% annually in July, moderating from the 4% annual growth trend of 2023 through mid-2025. About 200,000 federal employees let go by DOGE are still on severance and thus not yet listed as unemployed. The government shutdown could add thousands more to the unemployment line. The quality of jobs is perceived as weakening, with little growth in higher-wage areas including manufacturing and construction and most growth coming from lower-wage areas such as healthcare and services. In mid-August, the Bureau of Labor Statistics announced national benchmark revisions to total nonfarm employment for the period from March 2024 through March 2025. The revisions showed 911,000 fewer jobs created than previously reported. While the employment economy is deteriorating, two other bulwarks of the bull market – economic growth and corporate earnings – have been stronger than expected. Second-quarter 2025 GDP rose a robust 3.8%, after contracting 0.5% in 1Q25. Although GDP for the period was impacted by proactive positioning taken in anticipation of tariffs, solid second-quarter growth also reflected good consumer and business spending. Imports represented a 5.03 percentage-point contribution to 2Q25 GDP growth, after representing a 4.68 percentage-point reduction to 1Q25 GDP. The dearth of imports in 2Q25 was reflected in the drawdown of private inventories, which subtracted 3.44 percentage points from 2Q25 GDP after adding 2.58 percentage points to 1Q25 GDP. Amid first-half trade turbulence, Personal Consumption Expenditures (PCE) for 2Q25 rose 2.5%, much better than the 1.6% preliminary estimate and up from 0.6% for 1Q25. Non-residential fixed investment, the proxy for corporate capital spending, rose by 7.3% in 2Q25, a step-down from 9.5% in 1Q25 but still very solid. PCE and non-residential fixed investment, which in a ‘normal’ quarter constitute 80%-85% of GDP, contributed a combined 2.66 percentage points to 2Q25 GDP growth. Industrial production ticked up 0.1% in August after declining 0.4% in July. On a 12-month basis, industrial production increased 0.9% between August 2024 and August 2025. Capacity utilization of 77.4% in August was 2.2 percentage points below the long-run average. Business sentiment remains challenging but is off its worst levels. The ISM manufacturing PMI rose to 48.7% in August from 48.0% in July. The services PMI in August 2025 was 52.0%, up from 50.1 in July. This index has not been in contraction territory (below 50) since spring 2020. The Small Business Optimism Index from the National Federation of Independent Business (NFIB), which reached a six-year high of 105.1 in December 2024, had been as low as low of 95.8% in April — but has since recovered. The NFIB index rose to 100.8 in August, after having moved back above its 51-year average of 98.0 in June. Consumer sentiment is also up from tariff-shock lows while being more volatile than business sentiment. The consumer sentiment index from the University of Michigan fell to 55.1 in September from 58.2 in August and from 70.1% a year earlier. The Conference Board’s Consumer Confidence Index was 97.4 for August, down from 98.7 for July due to concerns about jobs availability. S&P 500 earnings from continuing operations for 2Q25 grew in low-double-digit percentages for a third straight quarter. Neither of the two preceding quarters began with such subdued expectations nor beat expectations so soundly. More than 80% of companies exceeded low-ball consensus expectations for calendar 2Q25 EPS, and the magnitude of the beat was at the upper end of the 5%-9% historical range. With tariffs now in place for many countries and products, inflation has shown signs of edging higher. The Fed’s preferred inflation gauge, the core PCE Price Index, rose 2.9% on an annual basis in August 2025, up from 2.8% in July and 2.7% in June. In 2024, solid economic growth and falling inflation gave the Fed room to cut interest rates by 100 basis points during its autumn 2024 FOMC meetings. Monetary policy w
