
US policy remains the key source of volatility but after the initial shock, markets largely put this behind them.
The second quarter of 2025 saw significant volatility across markets as investors grappled with tariff policy uncertainty and war in the Middle East. In both cases, investors’ worst fears ultimately proved unfounded and in the absence of a meaningful weakening in the hard data, most major asset classes delivered positive returns over the quarter.
The liberation day tariff announcement on 2 April caused a sharp selloff across markets. The reciprocal tariff package was larger than expected and both stock and bond markets reacted quickly. The S&P 500 fell 12% over the following week, while US 10-year Treasury yields rose 50 basis points between the 4 and 11 April. The US administration responded to market volatility and moved to soften its trade policy, pausing reciprocal tariffs for 90 days and agreeing the principles of a trade deal with China. This mollified investors and risk assets quickly recovered, with developed market equities delivering total returns of 11.6% over the quarter.
A combination of renewed investor confidence, and a strong earnings season helped boost mega-cap tech stocks. After underperforming in the first quarter of 2025, the ‘Magnificent 7’ delivered price returns of 18.6% over the second, outperforming the remainder of the S&P 500 by 14 percentage points. This helped global growth stocks deliver total returns of 17.7% over the quarter to end the period as the top performing asset class.
While US stocks and bonds recovered from April’s volatility, the US dollar saw continued weakness, with the DXY dollar index ending the quarter down 7.1%. This boosted the returns of international indices for dollar investors as the value of returns generated in other currencies increased over the quarter. Easing trade tensions between the US and China and a falling dollar were a particular tailwind for emerging market equities which generated a total return of 12.2% in dollar terms over the quarter.
The war between Iran and Israel caused significant geopolitical volatility, but its impact on markets was muted. The announcement of increased OPEC production dragged on oil prices. Despite some short-term volatility prior to the US intervention on 22 June, which temporarily pushed Brent crude to an intra-day high of $80 a barrel, oil prices ultimately ended the quarter back down at $68 a barrel and, despite positive returns from precious metals, broad commodities underperformed other risk assets with returns of -3.1% over the quarter.
The rebound in investor sentiment helped all major equity markets deliver positive returns. In local currency terms, the S&P 500 was the top performing index with returns of 10.9%. However, the depreciation of the US dollar was a tailwind to emerging markets, and Asia in particular. The easing of trade tensions meant Asian equities delivered strong local currency returns of 8.7%. But the appreciation of the Taiwanese dollar and the Korean won, which rose by 8.3% and 12.1% respectively against the US dollar over the quarter, helped boost USD denominated returns to 12.7% and Asian equities ended the quarter as the top performing region.
After a strong first quarter of the year, UK and European markets underperformed in a period of strong equity returns. European equities delivered returns of 3.6% in local currency. However, again dollar weakness against the euro meant that in dollar terms, European equities also delivered 12.7%, helping make Europe the key recipient for flows from investors looking to diversify away from the US. UK equities faced headwinds from high exposure to the energy and healthcare sectors which were the only negative equity sectors at a global level over the quarter. Despite this, the FTSE All-Share still delivered healthy returns of 4.4%.
The impact of a weakening dollar was further apparent in fixed income markets. Despite US real yields rising more than nominal yields over the quarter, global inflation-linked bonds were the top performing sector with returns of 4.7% as the dollar value of international cash flows rose. After widening in the aftermath of the ‘liberation day’ tariff announcements, global credit spreads retraced their steps and ended the quarter 9 basis points (bps) tighter than in April. Global investment grade credit delivered returns of 4.4% over the quarter.
US high yield was the top performing regional sector as a combination of higher all-in yields and a stronger recovery in spreads post the April sell off helped it beat European high yield with returns of 3.6% over the quarter. US Treasury yields remained range bound over the quarter and delivered returns of 0.8%.
European government bonds outperformed their US and Japanese counterparts over the quarter. In contrast to the Federal Reserve which remains on hold, easing inflation allowed the European Central Bank (ECB) to deliver rate cuts in April and June, bringing the deposit rate down to 2.0%. At the June meeting, President Lagarde indicated that the ECB is approaching the end of its cutting cycle. However, the bank’s own forecasts point to headline inflation undershooting its target next year, and the market continues to expect another cut by year-end. European bond yields fell by 17 basis points (bps) over the quarter, and tightening spreads helped Italian bonds outperform with returns of 2.9% during the quarter.
While US Treasury yields remained flat in aggregate, the curve steepened over the quarter as the bond market digested the implications of the “One Big Beautiful Bill Act.” This could add between $3 and $5 trillion to US Federal debt over the next 10 years before accounting for any tariff offsets and raised questions about the sustainability of Federal finances. US 30-year bond yields rose by 20bps over the quarter as a result.
The second quarter of 2025 proved just as bumpy as the first. US policy remains the key source of volatility but after the initial tariff shock, markets largely put this behind them. Indeed, despite almost reaching bear market territory in early April, the S&P 500 ended the quarter at a new all-time high. This does raise some concerns given the range of risks facing the US in the second half of 2025. Hard data has remained resilient thus far, but we expect the full impact of tariffs to become more apparent as we move through the next six months, and it is unclear how all the facets of US policy will interact. As we lay out in our mid-year investment outlook, Stable foundations for an unstable world, investors should look to build well diversified portfolios that are resilient to the wide range of risks ahead.