(Bloomberg) -- The turning of the calendar is an occasion to look ahead. For Wall Street at New Year’s, the verdict on the future is one of trepidation.
While spirits perked up on Friday, traders across asset classes spent much of the post-holiday period reining in the robust risk appetites that have ruled markets for much of 2024. Volatility measures crept up in Treasuries and corporate credit. They jumped in stocks, which posted the worst end-of-year slump on record. The largest exchange-traded fund tracking Bitcoin, darling of speculators globally, saw its worst-ever outflows.
Nothing in markets implied panic. But the moves did signal a wariness that has been largely absent in the past 12 months, at least in risk assets where a booming economy and easing Federal Reserve policy have been a recipe for nearly straight-up gains. Concern about Donald Trump’s presidential policies and their impact on inflation awoke hedging markets and kept bonds unsettled after the biggest quarterly runup in 10-year Treasury yields in more than two years.
To contrarians who have watched months of rampant risk-taking on Wall Street, any newfound caution is seen as healthy — a brake on overheating. Still, the pullback in certain assets, equities in particular, defied a historic pattern where the S&P 500 has tended to rise in the sessions right after Christmas, highlighting the hazards of preset playbooks in the second Trump era.
“We were a little surprised to see the market so risk-off at the end of 2024, but it is possible that the market was getting a slight jump on 2025,” said Chris Zaccarelli, chief investment officer at Northlight Asset Management. “It makes sense to us to take some risk off the table given the incoming administration is likely to make policy changes.”
Ten-year Treasury yields held above the widely watched 4.5% level as traders braced for tariffs that could come as early as this month after Trump’s inauguration, adding fresh risk to the Fed’s inflation-fighting campaign. Bond vigilantes have also been sounding alarms that Trump’s tax-cut agenda threatens to widen the fiscal deficit.
Signs of bullishness resurfaced on Friday, with the S&P 500 rising 1.3% as megacap tech stocks rallied and investors took relief from a swift re-election of the US House speaker. For the week, equities retreated, hovering near a low reached after the Fed’s last policy meeting, when central bankers signaled fewer interest rate reductions for this year than previously forecast.
The specter of policy uncertainty has put investors on edge, with demand for protection rising across assets. The Cboe Volatility Index, a gauge of the cost of S&P 500 options, climbed for a third week in four. A similar measure for Treasuries, the ICE BofA Move Index, hit a one-month high while turbulence ticked up in high-yield bonds and currencies.
The low-level gloom is a departure from recent months, when raging gambling spirits sent Bitcoin above $100,000 and drove billions of dollars to leveraged ETFs.
Now, BlackRock Inc.’s iShares Bitcoin Trust ETF is seeing its longest streak of outflows, including a record withdrawal on Thursday, while short sellers are reloading wagers against some of the largest ETFs tracking corporate debt.
In equities, an indicator of exposure kept by the National Association of Active Investment Managers slipped for a third straight week, marking the biggest drop since April. Meanwhile, a Cboe measure of options trading showed that volume in bearish puts spiked to the highest level in almost four months relative to bullish calls.
The risk aversion, for now, is at odds with optimism among Wall Street strategists in a Bloomberg survey, whose consensus calls for another 12% gain in 2025 after the S&P 500 scored a two-year, 53% rally.
“The dominant market view is that equities will continue climbing a wall of worry, but we know the incoming US administration loves building tall walls. In other words, the obstacles to keep delivering gains will get bigger,” said Max Gokhman, senior vice president at Franklin Templeton Investment Solutions. “So while I’m not going out of consensus to be bearish, it’s prudent to be careful and ready to tactically return to the sidelines.”
Higher anxiety levels are visible across markets. Bank of America Corp.’s Global Financial Stress indicator — which measures market risk, hedging demand and investor flows — sat above where it was 12 months ago.
Part of the uneasiness reflects lingering concern over market valuations, according to Lindsay Rosner, head of multi-sector fixed income investing at Goldman Sachs Asset Management. A Bloomberg model that adjusts the S&P 500 earnings yield and 10-year Treasury rates for inflation shows pricing for the world’s two most-watched assets is historically stretched. In fact, current cross-asset valuations, in real terms, are higher than 88% of the time in data going back to 1962.
“A modicum of caution at these tight valuations make sense but the growth story still feels intact,” Rosner said.
