Volatility returning?
Volatility returning?
Summary
It is normal to see double-digit percent losses in US equities in any one year, even though over time, equities have risen each year on average, since 1980 by around 10% . The current sell-off of around 4-5%, depending on the index, is relatively shallow in comparison, and should be regarded as ‘normal’.
2025 has seen robust returns for equities across the globe. Buoyed by the prospect of lower interest rates and stronger than expected earnings, investors have sought to add risk to their portfolios.
This risk seeking attitude has resulted in odd (and on the surface unhealthy) investment performance outcomes, one of which has been the strong returns from ‘lower quality’ companies. Typically, these underperform outside periods of economic recoveries. The ‘low-quality’ returns in 2025 mirror the strong returns in other ‘risk-on’ assets such as crypto currencies.
The recent sell-off in US equities has been accompanied by a much larger decline in ‘lower quality’ equities and in the likes of Bitcoin, which is down 29% from its recent all-time high.
2025 has seen better than expected earnings, especially outside of the US, which has aided better returns from non-US equities. However, valuations have increased to above average levels across all equity regions. To justify continued high valuations, earnings need to be strong or interest rates (and bond yields) will need to fall in 2026.
Losses are normal
Since the losses in March and April 2025, equity markets since then had been on steady climb. Investors had been buoyed by improving prospects for profits and lower interest rates, not just in the US but around the world. The losses since mid-October, which are currently under 5% in the main equity markets of the US and Europe, have felt a bit of a shock to some investors who may have become complacent over the past six months. The losses are mild compared to the losses earlier in the year (when the S&P 500 lost 19% and European markets fell 16%).
The recent reversal appears to focus on issues in some areas of the private credit market, where write-offs and bad lending practices are being unearthed, alongside concerns over the profitability and financing of Artificial Intelligence (‘AI’). Major US technology giants (such as Meta, Alphabet and Amazon) have spent billions on this new technology. How this spending translates into profit growth in the future is yet to be answered but the AI arms/capital expenditure race seems to be one that the large technology companies don’t want to stop, just in case they miss out on the next big thing in technology.
Think about the technology giants of yesteryear that didn’t see the smartphone coming and lost positions of dominance, such as Nokia. Spending to remain relevant may be a necessary requirement but investors will want to see proof that the spending will result in future profits.
However justified these are, we reflect that it is normal to see losses each year for equity investors. The chart below shows the calendar year returns for the US equity markets. Whilst the average annual return was 10% since 1980, intra-year losses averaged 14% in any one year.
This year is a case in point. The 19% decline in March and April was slightly higher than the average loss, but the strong rise since then has meant that year to date, the market had returned a highly respectable 12% to the end of October 2025.
US equity market: Returns shown are calendar year returns from 1980 to 2025, over which the average annual return was 10.6%. Past performance is no guarantee of future results. Intra-year drawdowns refers to the largest peak-to-trough decline during the year, which have averaged 14.1% in any one calendar year.
Source: Bloomberg, Artorius
But something may be stirring
That markets fall should not be a surprise for investors. However recent price action within the US equity market and elsewhere may suggest that some excess risk seeking may be due a correction.
Looking over the past decade, companies that are seen as ‘high quality’ have outperformed ‘low quality’ companies. Quality is in the eye of the beholder, but those companies with low debt levels and higher levels of profitability are typically seen as higher quality.
So called ‘low quality’ companies do sometimes outperform. Typically these may be in periods of economic recovery. An example of this is the post-Covid period, when the US economy went from a full stop to a stimulus fuelled recovery. Companies that were struggling to survive in shut-down, benefited from the economic start-up which possibly prevented them going out of business. Investors also went from pricing in a prolonged recession to investing for a recovery and favouring those companies whose outlook had improved the most due to the start-up. Whereas in more challenging circumstances investors focus on more stable, ‘quality’ companies.
Low quality companies v high quality companies relative return.
Aside from the Covid re-opening, low quality companies have underperformed higher quality companies between 2013 and 2024. 2025 outperformance of lower quality companies is strikingly odd given the lack of economic rationale.
Source: Bloomberg, Artorius
Somewhat oddly over the past 12 months, and especially so in the past 6 months, ‘low-quality’ companies have strongly outperformed their ‘high-quality’ peers. This is despite the lack of change in the economic momentum in the US. Without an economic rationale for the outperformance of low quality companies, excessive risk seeking behaviour may have driven the strong return, which could also be a driver for the 2025 rise in the likes of Bitcoin.
Over the past few weeks, as the equity markets has sold off, the lowest quality companies have seen the largest declines. The relative performance of low vs high quality companies appears to mirror the price pattern of the likes of Bitcoin which has fallen 29% in the last few weeks (and other crypto currencies have declined by more).
The 2025 outperformance of lower quality equities compared to the higher quality companies may reflect risk seeking behaviour that has driven Bitcoin and other crypto currencies in recent years.
Source: Bloomberg, Artorius
Fundamentals v valuations
Despite the tariff shock imposed by President Trump in April 2025, the backdrop to the markets in 2025 has been supportive. Earnings (profits) have been good, both in the US and elsewhere. Earnings per share (EPS) have been rising through 2025. For US equities (as shown by the S&P 500 index) the 12-month forward estimate for EPS has increased by 9% and by 12% for non-US equities (as shown by the MSCI ex-US index).
Whilst the US equity markets have been supported by buoyant earnings per share since 2023, earnings per share has been climbing for non-US equities through 2025.
Source: Bloomberg, Artorius
Over the past twelve months returns have been robust across most global equity markets. It is striking that in Sterling terms the US has lagged other countries and regions, although a 10% return (in sterling terms) from the US is not a poor return for UK investors.
In Sterling returns, the US equity markets has lagged other areas of the global equity market in 2025
Source: Bloomberg, Artorius
The challenge for investors is that valuations are above their 10 year averages. These maybe justified if one of two things happen. If earnings continue to be better than expected, then investors may continue to tolerate higher valuations than would have been historically normal. The other factor that may continue to support elevated valuations is the potential for further reductions in interest rates and lower bond yields. Elevated bond yields offer investors an alternative to highly valued equities from an expected return perspective. If interest rates don’t fall in 2026 or if earnings growth slows then equities may struggle to justify the current valuation.
Conclusion
It is normal to see double-digit percent losses in US equities in any one year, even though over time, equities have risen each year on average, since 1980 by around 10% . The current sell-off of around 4-5%, depending on the index, is relatively shallow in comparison, and should be regarded as ‘normal’.
2025 has seen robust returns for equities across the globe. Buoyed by the prospect of lower interest rates and stronger than expected earnings, investors have sought to add risk to their portfolios.
This risk seeking attitude has resulted in odd (and on the surface unhealthy) investment performance outcomes, one of which has been the strong returns from ‘lower quality’ companies. Typically, these underperform outside periods of economic recoveries. The ‘low-quality’ returns in 2025 mirror the strong returns in other ‘risk-on’ assets such as crypto currencies.
The recent sell-off in US equities has been accompanied by a much larger decline in ‘lower quality’ equities and in the likes of Bitcoin, which is down 29% from its recent all-time high.
2025 has seen better than expected earnings, especially outside of the US, which has aided better returns from non-US equities. However, valuations have increased to above average levels across all equity regions. To justify continued high valuations, earnings need to be strong or interest rates (and bond yields) will need to fall in 2026.
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Important Information
Artorius provides this document in good faith and for information purposes only. All expressions of opinion reflect the judgment of Artorius at 21st November 2025 and are subject to change, without notice. Information has been obtained from sources considered reliable, but we do not guarantee that the foregoing report is accurate or complete; we do not accept any liability for any errors or omissions, nor for any actions taken based on its content.
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