Is a market correction coming?

U.S. equity markets retreated recently but remain close to record highs, rebounding strongly from an early 2025 downturn. ¹ Since early April, when the S&P 500 narrowly avoided a bear market (a 20% decline or worse), investors have dismissed concerns about higher tariffs and the concluded government shutdown. Instead, they have zeroed in on company fundamentals and steady economic indicators like robust consumer spending.

Tariffs and policy shifts shape market moves

President Donald Trump’s new tariff policies triggered the market’s February to April decline, but prices surged to new highs as the President eased the most restrictive measures. “Stable consumer spending and improving corporate earnings enabled investors to look past tariff impacts,” says Bill Merz, head of capital markets research with U.S. Bank Asset Management Group. “However, investors continue to question the sustainability of artificial intelligence (AI) spending and the Federal Reserve’s rate cutting pace.”

AI drives market leadership

Information technology and communication services stocks led S&P 500 gains in 2023 and 2024. After a slow start in 2025, these sectors rebounded, with AI related companies powering the recovery. ¹ Businesses are using AI to automate processes, enhance decision-making, and improve customer engagement, fueling rapid growth. Investor concerns regarding AI companies’ elevated market valuations have driven recent market declines, though modest corrections are normal and AI and its related infrastructure retain a strong growth outlook. Large AI-related firms continue to outpace S&P 500 earnings growth, though they trade at higher valuations. ¹

Broader sector strength

In 2025, more industries are contributing to market performance. Financials hit new highs in September, industrials and utilities set new records in October, and consumer discretionary and health care eclipsed prior highs in November. ¹

Recently, the restart of Fed rate cuts and positive economic data benefited mid- and small-cap stocks. Investors anticipate lower borrowing costs will ease debt burdens, while the “One Big Beautiful Bill Act's” business stimulus measures have lifted earnings expectations. After trailing large cap stocks in 2023 and 2024, mid- and particularly small-cap stocks have narrowed the performance gap in 2025. ¹

Tariffs: ongoing negotiations and legal challenges

The administration continues to negotiate tariff and trade deals with many countries. Over the summer, the U.S. negotiated 15% tariff rates with the European Union, Japan and South Korea and secured a one-year deal with China in November. The administration has set higher rates on other nations and announced another round of sectoral tariffs, targeting softwood lumber, timber, kitchen cabinets and vanities.  

The U.S. now applies an average tariff rate near 12% on imported goods, up from 2% at the year’s start, generating $205 billion in customs duties through October - a 315% increase over 2024. ² If negotiations fail to lower announced tariffs, the Yale Budget Lab estimates the effective rate could approach 17%. ³ However, some forecasters project effective tariffs could settle in the mid-teens as consumers and businesses substitute purchases to avoid higher costs.

“Tariffs in place now address specific sectors, trade fairness issues and even geopolitical concerns,” says Rob Haworth, senior investment strategy director with U.S. Bank Asset Management Group. “Rising tariff rates for major trading partners, such as China, Canada, Mexico and the European Union, raise U.S. import costs.”

Legal challenges threaten President Trump’s tariffs. In late August, a Federal Circuit appeals court upheld the Court of International Trade’s May decision that certain tariffs exceed presidential authority, but the tariffs remain in effect during the appeal. On November 5, 2025, the Supreme Court heard arguments in the administration’s appeal, consolidating two separate tariff lawsuits. The court will ultimately rule on President Trump’s unilateral tariff strategy, likely early in 2026.

Inflation outcomes remain uncertain

Many economists expect tariffs to push inflation higher, but Consumer Price Index (CPI) changes have been modest in 2025. ⁴ “We’ve seen modest acceleration in core goods prices, and investors should expect some additional inflation in coming months,” says Tom Hainlin, national investment strategist with U.S. Bank Asset Management Group.

Over the past year, core CPI (which excludes volatile food and energy prices) rose 3.0%, decelerating slightly from August’s 3.1% annual pace but remaining above the Fed’s 2% inflation target.⁴ Federal Reserve surveys of its 12 regional districts reported widespread tariff-induced input cost increases across manufacturing and retail businesses, though the extent costs pass through to final prices varies. ⁵

Government shutdown risk returns in 2026

While the federal government has reopened, lawmakers only funded veterans’ programs, food aid, farmer assistance and Congressional operations for the full fiscal year, concluding September 30. The deal only funds other government agencies through January 30, and investors are watching the risk of a partial government shutdown starting January 31.

Meanwhile, the shutdown delayed important economic data releases such as weekly unemployment claims, monthly retail sales, and the Bureau of Labor Statistics’ employment report. However, high-frequency alternative data including movie theater box office receipts, airport checkpoint traffic, restaurant bookings and private sector retail sales gauges reflect resilient consumer activity.

Policy changes and market reactions

In early July, lawmakers passed comprehensive tax and spending legislation, extending 2017’s tax cuts, adding other tax breaks and raising the debt ceiling. Markets responded favorably, and some corporate executives cited these changes for boosting profit expectations. The Congressional Budget Office forecasts an additional $150 billion in consumer stimulus via tax changes, which should occur as individuals begin receiving tax rebates in early 2026.

While companies remain cautious in projecting how tariffs will impact future earnings, awaiting more policy clarity, some companies have provided investors with more forthcoming earnings guidance, factoring in the OBBBA’s corporate tax relief. As equity prices climb, investors wonder if upward market momentum can continue. “Valuations are elevated,” says Haworth. “But companies remain nimble.” He notes that analysts are raising earnings forecasts into next year, supporting upward-trending equity prices.

Fed interest rate policy remains a key variable

Markets closely watch Fed interest rate policy, which influences global borrowing and financing costs. After cutting rates three times in late 2024, the Fed held rates steady before lowering the target rate by 0.25% at September and October 2025 meetings to 3.75% to 4.00%. Investors anticipate another rate cut at the December meeting. ⁶ At his October 29^th press conference, Fed Chairman Jerome Powell expressed caution with respect to future cuts, emphasizing inflation remains above their 2% target while acknowledging softer labor market conditions.

President Trump remains publicly frustrated with the slow pace of interest rate cuts, even suggesting firing Fed Chair Jerome Powell, whose term as Chair ends next May. President Trump indicated at a December 2^nd Cabinet meeting he would announce a replacement early next year. “The President is saying what every borrower wants to hear: that we want lower interest rates,” says Hainlin. “At the same time, the Fed continues to emphasize two of their primary objectives – promoting full employment and ensuring stable prices – and that they’re doing their jobs well. It’s a collision of two principles.” Markets typically react positively to Fed rate cuts, but inflation risks linked to tariffs continue to influence Fed policy and equity prices.

A time for appropriate diversification

Determining the right asset mix for your portfolio involves making investment decisions that suit your personal situation, not just reacting to market and economic trends. The current market environment reflects lessons from history – stay invested and diversified, despite market volatility and uncertainty. Significant market swings like those experienced in 2025 are nothing new.

Haworth advises those who held cash as a precaution and missed the recent market rally to use a dollar-cost averaging approach to invest over time. While markets at new all-time highs sometimes present risks, Haworth also notes, “New all-time highs are often followed by new all-time highs.”

Now is an important time to check in with a wealth planning professional to ensure you are comfortable with your current investments and that your portfolio aligns with your time horizon, risk appetite and long-term financial goals.

The S&P 500 Index consists of 500 widely traded stocks that are considered to represent the performance of the U.S. stock market in general. Diversification and asset allocation do not guarantee returns or protect against losses. The Russell MidCap Index provides investors with a benchmark for mid-sized companies. The index, which is distinct from the large-cap S&P 500, is designed to measure the performance of mid-sized companies, reflecting the distinctive risk and return characteristics of this market segment. The Russell 2000 Index refers to a stock market index that measures the performance of the 2,000 smaller companies included in the Russell 3000 Index.