October 2025 Review and Commentary: Artificial Intelligence! Risk On! Lower Rates!
Peter W. Tuz, CFA, CFP®, President & Portfolio Manager
Since it is abundantly clear that a large driver of the significant gains in U.S. equity markets has been the growth of all things A.I.-related (artificial intelligence) we thought it fitting to pose the following question to Chat GPT.
“Can you tell me why the S&P 500 has done so well in the third quarter?”
Its answer:
Because Q3 (July–September 2025) combined powerful tailwinds: mega-cap tech and AI leaders (Nvidia, Alphabet, Apple) kept ripping and concentrated an outsized share of index gains; investors priced in Fed easing after cooler inflation and softer yields; corporate results broadly beat expectations; and volatility stayed unusually low, encouraging rules-based and discretionary risk-on flows. Headlines captured it: tech-led surges drove global equity value up by trillions and pushed the S&P 500 toward record highs; September itself was the best in years on rate-cut optimism; earnings beats were widespread; and one of the calmest quarters since 2019 reduced the cost of staying long. Together, those forces made “buy the dip” work and kept multiples elevated into quarter-end.
Good enough!
We could probably sum up U.S. equity market action in the third quarter in as few as two words. The problem is which two? Artificial Intelligence! Risk On! Lower Rates!
While the S&P 500 Index (“S&P 500”) rose 8.12%, there was clearly a growth bent to the quarter and the growth bent was led by companies in or near the artificial intelligence ecosphere. The Russell 1000® Growth Index rose 10.51% while the Russell 1000® Value Index rose 5.33%. And as in many prior quarters, the “Mag 7” companies turned in especially good performance with the Roundhill Magnificent Seven ETF (MAGS) up 16.93% while its opposite, the Defiance Large Cap ex-MAG 7 ETF (XMAG) up only 4.43%. While large cap stocks did well, as evidenced by the S&P 500, small cap stocks did even better with a gain of 9.11% for the S&P SmallCap 600. The S&P MidCap 400 rose 5.55% in the quarter.
What’s to credit for the performance?
As is typically the case, it is hard to cite any single reason. Our main thoughts were as follows:
The most likely cause was probably the cut in short-term interest rates, and the likelihood of a few more rate cuts in the next three months. In addition, another important cause was the relative strength in corporate earnings despite some signs of weakening consumer spending and the imposition of various tariffs earlier this year. In any event, there is copious evidence that “risk on” was fully in evidence in the third quarter. S&P Global breaks down important factors that led or lagged markets on a quarterly basis. The third quarter’s best factors were High Beta, Grown and Select Dividend, while the laggards were Low Volatility, Dividend Aristocrats and Quality. The best three S&P sectors were: Information Technology, Communications Services and Consumer Discretionary. The only sector with negative quarterly results was Consumer Staples, which fell 2.36%. Two other laggards were Real Estate and Materials, both of which had modestly positive returns in the quarter.
Despite the quarterly strength, as we enter October and the fourth quarter, there is much to worry about.
First of all, we are now in the first federal government shutdown since 2019. Whether it lasts long enough to have a negative impact on the economy or earnings remains to be seen. If one had to guess, the answer would be probably not. Of greater import would be some sort of negative impact a government shut-down might have on bond markets – for example, could signs of disfunction in the federal government affect government bond auctions and drive interest rates, especially longer rates, up despite efforts to lower them. Secondly, third quarter earnings season will be upon us shortly.
Analysts continue to expect the S&P 500 to post aggregate earnings per share of $265.17 this year and $295.76 in 2026. This puts the current S&P 500 muiltiple on 2026 earnings at 22.7X, high by historic standards.
Thirdly, October can be a rough month for equity markets. Although historically the S&P 500 is up about 60% of the time over the past 74 years (Stock Traders Almanac) October has seen some of the weakest markets ever including the 22% drop in October 1987 and the 18% drop during the week ended Oct. 10, 2008, as the financial crisis of that time worsened.
But to end on a more positive note, the fourth quarter of the calendar year has historically been the strongest. In the past 25 years, there have been six down fourth quarters and 19 up quarters. The worst fourth quarter in recent history was the 21.6% drop in Q4 2008, near the nadir of the financial crisis. The best fourth quarter over the period was the gain of 12.12% in Q4 2020, the year Covid appeared. In addition, the strongest six-month period of the year begins as October ends.
With the S&P 500 now up 14.83% this year through September 30th, for some of you, rebalancing your portfolio is probably in order as is year-end tax and gift planning. As always, we are here to help you achieve your investment goals.
