“Nothing succeeds like success”
Alexandre Dumas
The third quarter of 2025 was another successful period for U.S. financial markets. The S&P 500 returned 8.12%, bringing its year-to-date gain to 14.83%. The Russell 2000, a broad index of small-cap stocks, rose 12.39% for the quarter and is now up 10.39% for the year. Returns in the fixed income markets were more modest but remained positive. The ICE BAML U.S. Corp & Gov’t 7–10 Year Index gained 2.39% during the quarter and has returned 7.84% year-to-date. Overall, it was a very positive quarter for investors.
The key drivers of financial markets in Q3 2025 were moderating inflation, monetary easing, and sustained consumer spending. Inflation, as measured by the CPI, rose roughly 3% for the 12-month period ending September 30th. While this remains above the Federal Reserve’s (the Fed’s) 2% target, inflation did not spike as many feared it would following the implementation of tariffs in the spring. Moderating inflation, combined with a softening job market, gave the Fed leeway to lower the target for the federal funds rate by 25 basis points in September to a range of 4.0% to 4.25%.
Lower interest rates and moderate inflation expectations are positives for long-duration assets and have supported financial markets. The same is true for the broader economy. The rate of U.S. economic growth, as measured by GDP, accelerated throughout the year. It moved from a 0.6% contraction in Q1 2025 to a 3.8% annualized gain in Q2 and a forecasted 3.9% growth rate in Q3. The resilience of the U.S. economy, which continues to expand despite ongoing challenges and uncertainty, is impressive.
These factors contributed to a favorable environment for corporate earnings. Earnings for the S&P 500 are estimated to increase by about 10% in 2025 and have shown an accelerating pace of growth, with most companies reporting results above expectations. Stock prices have rallied in response, reaching record highs. Higher stock prices, in turn, support consumer spending. Nothing succeeds like success.
The rally in equities this year has pushed market valuations to elevated levels. While there are many ways to measure valuation, they all suggest that markets are highly valued compared to historical standards. One straightforward metric is the ratio of total market capitalization, the value of all stocks, to the size of the U.S. economy, GDP. The chart below illustrates how the 2025 rally has pushed valuations to an all-time high.
*Source: Seeking Alpha
While it may be tempting to grow complacent and simply admire the strong market returns, history teaches that good times do not last forever. Inevitably, downturns occur. Bull markets such as the one we are experiencing often climb a wall of worry. They manage to brush aside negative developments and continue higher, but eventually, they reach a point where further gains become unsustainable, and markets experience a sharp correction.
It is impossible to predict what might disrupt the current market. Potential risks include the ongoing war in Ukraine, tariff negotiations, ballooning U.S. government debt, slowing job growth, or perhaps an unforeseen black swan event.
Our experience has taught us not to try to predict markets, but rather to invest in high-quality, what we call Ironwood Hi-IQ, companies. These are typically businesses with strong balance sheets, competitive advantages, resilient business models, and experienced management teams committed to thoughtful ESG practices. Such companies have the characteristics that enable long-term success, and as we have seen in the current environment, nothing succeeds like success.
As always, we thank you for your continued trust and welcome your questions or thoughts.
Sincerely,
