Photo by Michael Guesev, The National Museum of Qatar, Doha 2025
A Liquidity & Macro Perspective: Can the Bull Run Keep Running?
U.S. equity markets have continued defying gravity in 2025, heralding the continuation of a 3-year bull market. Why is this the case and can it continue through year end and into 2026? A closer look at the macro backdrop reveals a self reinforcing liquidity regime at work. Six key factors spanning fiscal maneuvers, monetary easing, global capital flows, and cost dynamics, are interacting to flood markets with liquidity and propel stocks upward, albeit with one major short-term risk which we will call factor seven. Below we analyze each factor in depth, highlighting how they interlink to support a bullish outlook through year-end 2025 and into 2026, and the one risk that has the potential to derail the ride.
1. Treasury Liquidity Maneuvers Under Bessent: Short-Term Bills and ON RRP Unwinding
Treasury Secretary Scott Bessent has aggressively shifted U.S. government financing toward short-term Treasury bills instead of long-term bonds, a strategy aimed at both lowering borrowing costs and injecting liquidity into markets. After the debt ceiling was lifted by $5 trillion in July 2025, the Treasury embarked on a borrowing spree heavily tilted to T-bills. In the third quarter alone, Bessent’s Treasury issued $1.007 trillion in net marketable debt (82% above prior plans) – mostly in bills. This glut of T-bills is fundamentally reshaping money markets and the banking system liquidity mix.
How Bill Issuance “Unsterilizes” Cash: Money market funds, enticed by the attractive yields on new T-bills, have been pulling cash out of the Federal Reserve’s Overnight Reverse Repo (ON RRP) facility to buy these bills. The ON RRP is essentially a parking lot for excess cash: funds lent to the Fed via ON RRP are locked up and “sterilized”, not circulating in the economy. By issuing short-term bills that yield more than the ON RRP rate, the Treasury has caused a migration of roughly $2.5 trillion (at the 2022 peak) out of ON RRP into T-bills. This drains the RRP balances and moves cash first into the Treasury’s account and ultimately into private hands when spent. In effect, previously idle liquidity is reactivated, or “unsterilized.”
Equally important, shifting issuance to bills creates high-quality collateral. Every new T-bill boosts the supply of safe assets that can be pledged in repo markets, greasing the wheels of the financial system. Dealers can re-use Treasuries multiple times in secured financing with estimates showing a single U.S. Treasury security might be rehypothecated 6 to 9 times in the repo market. By expanding the collateral pool, the Treasury is amplifying the liquidity multiplier, since more collateral supports more borrowing and leverage. Money market funds are clear beneficiaries: they now have abundant short-term instruments to invest in, instead of relying on the Fed facility.
Interactions with TGA, Reserves, and Money Markets: Initially, the surge in bill sales has been drawing down the Treasury’s General Account (TGA) rebuild and funding fiscal programs without immediately shrinking bank reserves. In mid-2025, much of the bill uptake came from cash that was sitting in ON RRP. That meant the flood of issuance did not at first reduce banks’ reserve balances, instead it shifted liquidity from a Fed liability (RRP) to a Treasury liability (T-bills), keeping overall money supply stable. However, with ON RRP usage now “nearly depleted”, each new wave of bill issuance will start pulling new money from the financial system if not met with fresh cash inflows. This looming dynamic has caught the Fed’s attention: as RRP balances dwindled and bank reserves fell below $3 trillion (their lowest since 2019), Fed officials began signaling an early end to quantitative tightening. Chair Powell noted in October that reserve levels are approaching the “ample” level floor, indicating the Fed may halt balance sheet runoff to avoid liquidity strains. In short, Bessent’s bill deluge is doing some of the Fed’s tightening by luring cash out of the Fed’s vaults, yet paradoxically it sets the stage for more easing ahead as the Fed reacts to ensure liquidity remains sufficient.
Money market behavior underscores this delicate balance. By late 2025, overnight repo rates and other short-term funding costs had been rising in sympathy with massive bill supply. Market chatter about potential quarter-end cash crunches and even emergency Fed repo operations (via the Standing Repo Facility) highlights that liquidity is being redistributed. But on the whole, the Treasury’s actions have been liquidity-positive for risk markets: cash that was inert in ON RRP is now funding government outlays (via the TGA) and finding its way into bank deposits and investments. Moreover, the Treasury’s choice of bills over long bonds helped contain long-term yields, preventing a sharper spike in discount rates for equities (as discussed further in Section 4). In essence, Bessent’s strategy is trading short-term debt for short-term liquidity; a bet that is currently boosting markets, albeit one that requires careful coordination with the Fed’s reserve management.
2. Federal Reserve Rate Cuts and a Lower Policy Corridor
As 2025 progressed, the Federal Reserve shifted from restraint to accommodation, embarking on interest rate cuts that directly improved financial conditions. After holding policy steady in early 2025, the Fed delivered its first 0.25% rate cut in September, bringing the target federal funds range down to 4.00–4.25%, and followed up with another likely cut at the October meeting. Markets anticipate at least one more cut beyond October by year-end, with Fed projections envisioning a policy rate around 3.6% by end-2025. These cuts compress the entire interest rate corridor including the interest rate paid on reserve balances and the ON RRP rate with cascading effects on liquidity and asset allocation.
Influence on Reserves and Repo Rates: Lowering the Fed’s administered rates reduces the “floor” yield on very safe short-term investments, which in turn influences money market rates broadly. For example, the Fed’s September cut immediately lowered the ON RRP offering rate (and interest on reserves) by 25 bp. With cash yields falling, banks and non-banks have less incentive to hoard funds at the Fed, potentially encouraging deployment of reserves into loans or other uses. Indeed, as soon as cuts began, treasury bill yields and repo rates started to fall in anticipation, often undershooting the Fed’s new target in forward markets. A lower policy rate thus leaks into repo markets by pulling down overnight secured funding costs easing financial conditions for dealers and leveraged investors who rely on repo. In practical terms, each notch down in the Fed’s rate makes it cheaper to finance positions, marshalling more liquidity towards securities.
Relative Attractiveness of Risk Assets: Perhaps the most visible effect of Fed easing is on the appeal of equities and other risk assets relative to cash. By cutting rates, the Fed lowers the returns on cash-like instruments, essentially forcing a rebalancing. BlackRock noted that with “cash yields set to fall potentially in a big way it may be time to move in the opposite direction,” i.e. out of cash and into higher-yielding assets. All year, investors have been preparing for this regime shift: even before cuts started, stocks and bonds were handily outperforming cash in 2025, and that trend is poised to continue as interest rates decline. The rationale is straightforward: when the risk-free rate falls, the opportunity cost of holding equities drops, and equities’ earnings yields become more compelling on a relative basis.
Lower rates also reduce discount rates in valuation models, inflating the present value of future corporate earnings and dividends. As State Street analysts observed, “If the Fed lowers rates, equities will likely rally, given the lower discount rate for future growth assumptions.” This dynamic has been on full display: each hint of a dovish Fed pivot in 2025 sent the S&P 500 higher, as investors anticipated improving valuations. Indeed, equity market strength in late 2025 suggests that investors view the Fed’s rate cuts as responsive to past inflation data rather than a warning about future growth – essentially a green light for risk-taking. Lower forward interest-rate expectations have thus fed directly into higher equity prices, with the S&P repeatedly hitting new all-time highs after the Fed’s moves.
Portfolio Rebalancing Mechanics: The prospect of continued rate cuts has important knock-on effects for portfolio allocation. Bond investors, for instance, have extended duration in anticipation of falling rates, driving down yields across the curve. Ten-year Treasury yields fell near 4.0% in September as the market priced in additional 2025–2026 rate cuts. For multi-asset portfolios, falling yields prompt a rebalance into equities and credit to maintain return targets. Institutions that had built up large cash or short-term holdings during the tightening cycle are now redeploying. A key trend has been advisors trimming cash and short-duration bonds (which were attractive when yields were high) and moving into longer-term bonds and equities as yields decline. In effect, Fed cuts are squeezing investors out of cash: BlackRock reported that by September, many were stepping out of cash into bonds and “maintaining equity overweight” positions, particularly in U.S. large-caps.
Finally, interest rate cuts help steepen the yield curve (bull steepening) when short rates fall faster than long rates. This is healthy for banks and credit creation, and it signals easier monetary policy ahead. All else equal, a steeper yield curve post-cuts can encourage lending (boosting money supply) and improves market liquidity by alleviating pressure on short-term funding markets. The Fed’s ongoing easing cycle while so far modest, but clearly signaled to continue into 2026 has thus been a major tailwind for liquidity in 2025, reinforcing the bullish environment for equities.
3. Summer 2025 Tax Cuts: Front-Loaded Fiscal Boost to Demand
In mid-2025, Washington delivered a large front-loaded fiscal stimulus via tax cuts that have pumped up aggregate demand and added fuel to the equity rally. The enactment of the so-called One Big Beautiful Bill Act (OBBBA) on July 4, 2025 combined substantial tax relief with spending changes as part of President Trump’s second-term agenda. The package extended and expanded key provisions of the 2017 Tax Cuts and Jobs Act, resulting in an estimated $4.5 trillion in tax reductions over 10 years. Crucially, many benefits were front-loaded into 2025–2026, giving the economy an immediate jolt.
Boost to Aggregate Demand: By putting money directly back into households’ and businesses’ pockets, the 2025 tax cuts have boosted consumer spending and business investment in the short run. Government analysts projected the measures would lift U.S. GDP growth by ~0.2 percentage points in the short term (even though offsetting spending cuts are scheduled for later years). This makes intuitive sense: reduced income tax withholding and higher child tax credits gave consumers more disposable income to spend in summer 2025, bolstering retail sales and corporate revenues. Likewise, generous business tax breaks improved cash flow for firms, enabling more hiring and capital outlays. Notably, the tax package included “absurdly generous bonus depreciation” provisions allowing companies to fully expense capital investments and R&D costs immediately. This effectively front-loaded corporate tax savings into 2025, incentivizing a surge in equipment purchases and other investments before year-end.
The fiscal impulse came at a time when the economy was already operating with relatively strong demand, raising some concerns about overheating or inflation. Indeed, economists warn that large deficit-financed tax cuts in a full-employment economy risk pushing aggregate demand above the economy’s capacity, which “will either manifest as inflation or… higher interest rates” as the Fed reacts. In 2025 we saw this tug-of-war play out: early in the year, the Fed actually delayed cutting rates due to tariff-related inflation fears, despite political pressure. However, by late summer the Fed judged that underlying inflation was contained, allowing monetary easing to proceed even as fiscal policy turned expansionary. The result has been a best-of-both-worlds for equities: stronger growth and earnings from the tax stimulus, without an aggressive Fed response to spoil the party.
Funding Needs and Macro Liquidity: The tax cuts, by widening the budget deficit, necessitated the massive Treasury borrowing discussed in Section 1. The Treasury’s choice to finance the stimulus with short-term bills (rather than long bonds) has been pivotal in how this fiscal boost impacts liquidity. Essentially, the stimulus was debt-financed in a liquidity-friendly manner: money market funds happily absorbed over a trillion dollars of new T-bills, and the Treasury then injected those proceeds into the economy via tax refunds, government transfers, and spending. Unlike a long-bond-funded deficit (which might crowd out private investment or lift long-term yields), the bill-funded deficit has slotted into abundant short-term liquidity channels. It has drawn cash out of the Fed’s sterile RRP facility and into circulation, while keeping long-term borrowing costs relatively anchored.
Of course, deficits do add to the stock of government debt, and the Treasury is effectively relying on the Fed’s backstop that ample reserves will remain. The already elevated deficit (projected at ~6%+ of GDP in 2025 even before these tax cuts) means the U.S. is issuing debt at a historically rapid clip. Yet the market has tolerated it well so far, thanks to the global demand for dollar assets and the Fed’s signal of a QT pause. In fact, Treasury Secretary Bessent argued the stimulus’s financing was manageable, citing the importance of maintaining market liquidity over strict deficit targets. By front-loading tax cuts (politically popular ahead of the 2026 elections) and pushing any fiscal consolidation to the future, policymakers essentially flooded 2025 with extra liquidity: the private sector’s after-tax incomes jumped while any crowd-out effects are deferred. Equities have benefited both from the direct demand boost (higher sales for companies) and the implicit message that fiscal and monetary policy are aligned to support growth for now.
In summary, the summer 2025 tax cuts poured gasoline on an already warm economy. They have propelled consumer spending and corporate earnings (short-term bullish), while also increasing Treasury issuance and debt (a longer-term consideration). The key from a market perspective is that this stimulus arrived alongside dovish monetary policy, creating a powerful pro-liquidity mix. As long as inflation remains in check, the front-loaded fiscal expansion adds upside to corporate performance without immediately forcing a restrictive Fed response, a dynamic decidedly positive for U.S. equities in 2025.
4. Falling Bond Yields: Collateral Values, Discount Rates, and Allocation Shifts
Another pillar of the equity rally has been the decline in Treasury bond yields over the course of 2025. After spiking in 2024, nominal yields have eased lower on the back of the Fed’s policy pivot and strong global demand for U.S. debt. The 10-year Treasury yield, which began 2025 elevated, fell back below 4% by the autumn, and real (inflation-adjusted) yields likewise retreated from decade highs. Lower yields reverberate through the financial system in multiple ways that support equities: boosting collateral prices, lowering discount rates, and prompting portfolio reallocations toward risk.
Higher Collateral Valuations and Re-use Capacity: As bond yields fall, bond prices rise, immediately increasing the market value of the collateral that underpins much of the financial plumbing. Banks, brokers, and investors holding Treasuries saw the value of those assets appreciate in 2025, which enhanced their balance sheets and lending capacity. For instance, a bank posting Treasuries for overnight borrowing can suddenly borrow more against the same bonds, thanks to higher mark-to-market values. This dynamic improves what one might call the “collateral channel” of liquidity. A more valuable pool of Treasuries supports more leverage and trading activity: dealers can extend more repo financing, and shadow banks can intermediate more credit, when the collateral they pledge is worth more (and considered very safe). In short, falling yields inflate the effective money supply by raising the collateral base that greases shadow banking. This is amplified by the high re-use rate of Treasuries where each dollar of Treasuries can be rehypothecated several times (a collateral multiplier of ~6x or more) in repo markets. So a broad bond rally increases the net liquidity available for risk asset purchases via the repo-leverage channel.
Lower Discount Rates = Higher Equity Valuations: From a fundamental standpoint, Treasury yields serve as the benchmark for discounting future cash flows. A drop in long-term yields thus reduces the discount rate applied to equities, inflating the present value of companies’ future earnings. This mechanism has been central to the stock surge. In 2024, rising real yields put pressure on equity valuations (the equity risk premium shrank as bond yields rivaled earnings yields). But in 2025 the trend reversed: by September, the S&P 500’s earnings yield around 3.7% was once again below the T-bill yield, signaling stretched equity valuations until falling yields began to correct that imbalance. When the Fed started cutting rates, short-term yields followed down and the “cash versus stocks” yield gap began to normalize. State Street noted that Fed easing would help reverse the unusual situation of cash yields exceeding earnings yields, by bringing down the cash yields and thus making stocks look more attractive again. Indeed, the expectation (and then realization) of lower yields has allowed equity valuation multiples to expand in 2025 without as much fundamental earnings growth with the discount rate effect.
Additionally, term premia and yield curve expectations have played a role. Term premium (the extra yield investors demand for holding long-duration bonds) has remained subdued despite heavy Treasury supply, thanks in part to global factors (e.g. foreign buying, low yields abroad, and perhaps some Fed credibility on inflation). A low or declining term premium meant that long-term yields fell almost in line with expected short-term rates. With the Fed signaling a peak and eventual cuts, investors felt confident to buy long bonds, keeping yields in check. For equities, a contained term premium is a blessing: it implies that long-term interest rates are not rising out of fear of inflation or debt risk, but instead are reflective of benign future policy paths. By late 2025 the yield curve was steepening in a bullish way with short rates down and long rates only modestly up, which historically supports higher stock valuations. Conversely, a “bear steepening” (long rates up on inflation fears) would raise the cost of capital and pressure equities, but that scenario has been mostly avoided so far.
Portfolio Allocation Shifts: Falling bond yields have also driven a powerful asset allocation rotation. As yields drop, the expected return on bonds diminishes, encouraging investors to shift some capital into equities to seek higher returns. In 2025 we witnessed the reversal of the “cash is king” mentality of 2022–2023; instead, TINA (“there is no alternative” to stocks) gradually returned as yields subsided. Institutional investors who had been underweight duration started buying intermediate-term bonds (locking in gains from price appreciation) but kept underweighting the longest bonds, preferring risk assets instead. The reasoning was that with a mild economic outlook (no deep recession expected), long bonds might not rally as much, whereas credit and equities could outperform in a mild-growth, falling-rate environment. This has indeed been the case: by Q3 2025, multi-asset strategists were recommending equity overweights and selective credit exposure while not overextending on 30-year bonds.
In practical terms, as the 10-year yield fell from ~4.5% to ~4% and seemed likely to head lower, funds flowed into equity ETFs and mutual funds. Lower yields also made dividend-paying stocks and high-yield corporate bonds more attractive on a relative basis, pulling in income focused investors. Even corporations took advantage: with cheaper borrowing rates, companies refinanced debt and had more flexibility to increase share buybacks and dividends (further supporting equity prices). We even saw some episodes where stocks and bonds rallied in tandem – a classic outcome when yields decline due to lower rate outlook rather than growth panic. It’s a sign that liquidity-driven buying was buoying multiple asset classes at once.
In summary, the downdraft in Treasury yields has been a cornerstone of 2025’s equity-friendly environment. By raising collateral values (and thus financial system capacity), lowering the hurdle rate for investment, and prompting a reallocation into stocks, falling yields created a positive feedback loop: rising markets attract more risk-taking, which in turn further eases financial conditions. As long as yields remain contained or drifting lower, a scenario likely if the Fed continues gentle rate cuts and inflation stays moderate, this will continue reinforcing the bull case for U.S. equities.
5. A Cheaper Dollar: FX Tailwinds and Global Capital Inflows
The U.S. dollar’s significant decline in 2025 has added another layer of support for equities. After years of strength, the dollar slid roughly 10% against major currencies in the first three quarters of 2025 on pace for its largest annual drop this century. This weaker dollar regime benefits U.S. stocks through multiple channels: enhanced foreign earnings for U.S. multinationals, improved valuation for international investors, and shifts in cross-border capital flows (including FX-hedged investment strategies) that favor U.S. asset markets.
FX Translation and Competitiveness Boost: A cheaper dollar makes U.S. products more competitive globally and boosts the dollar value of foreign earnings. Large-cap U.S. multinationals that generate significant revenue overseas have seen a windfall from currency translation. For example, when a European subsidiary earns income in euros, each euro converts into more dollars when the dollar is weak. WisdomTree analysis highlights that 2025’s sharp ~9% USD decline “set the stage for a rebound in U.S. corporate earnings,” noting that historically, steep dollar sell-offs precede double-digit S&P 500 earnings growth. In fact, the first-half 2025 dollar drop was the worst since 2008, and it significantly boosted returns for non-U.S. equities (for U.S.-based investors) while also likely contributing to better-than-expected earnings for U.S. firms with global sales. Sectors like technology, industrials, and consumer staples which have high foreign exposure saw tailwinds to their top-line as overseas revenues translated into more dollars. At the same time, U.S. exporters found it easier to increase sales volume abroad, potentially gaining market share. The net effect is higher aggregate EPS for the S&P 500 than if the dollar had stayed lofty. This earnings improvement reinforces the liquidity thesis: stronger earnings mean internal cash generation is high, allowing for more buybacks, dividends, and investment without tapping credit markets – all supportive of equity valuations.
Cross-Border Capital Flows and Technical Inflows: The dollar’s decline has also influenced the behavior of foreign investors. With the Fed’s rate cuts narrowing the U.S.–foreign interest rate differential, the cost for foreign institutions to hedge USD exposure has dropped. In recent years, many European and Asian investors kept their U.S. equity and bond holdings unhedged because hedging was expensive and the dollar was strong (so an unhedged position offered FX gains). But in 2025, that calculus flipped: the dollar began weakening and hedging costs started falling. This spurred a trend of foreign investors raising their hedge ratios on U.S. assets, essentially selling dollars forward. Reuters reported that the Fed’s easing “helps to lower hedging costs for foreign pensions, sovereign funds and other institutional investors,” and that some have been “waiting for the resumption of the cutting cycle” to ramp up currency hedges As those hedges go on, it creates technical inflows into U.S. markets: for example, a European fund that had held off buying U.S. bonds due to currency risk might now buy U.S. Treasuries and hedge the USD, because the hedge is affordable. The act of hedging involves selling USD for EUR forward which actually puts further downward pressure on the dollar, potentially reinforcing the dollar weakness cycle.
Moreover, foreign investors who were underweight U.S. equities are finding them cheaper in local currency terms. A 10% drop in the dollar is like a 10% “sale” on U.S. stocks for someone paying in euros, yen, or pounds. This can trigger rebalancing flows into U.S. equities to capitalize on the currency move. We’ve seen hints of this: despite the dollar’s slide, U.S. stock indices continued to rally strongly (up ~14% on the year by October), an unusual divergence historically. Analysts suspect one reason is that foreign investors increased hedging and possibly new purchases, which helped U.S. stocks rise even as the currency fell. In essence, some global investors hedged the FX risk rather than fleeing U.S. markets, maintaining or adding to their positions.
There is also an FX-hedged yield arbitrage angle. When U.S. interest rates were much higher than those in Europe/Japan, a hedged U.S. bond investment could yield negative in foreign currency terms (the forward premium wiped out the yield advantage). But as the Fed cut rates, the U.S.–foreign short-rate gap shrank, improving the FX-hedged yield pickup. By late 2025, foreign investors could earn a more attractive yield on U.S. Treasuries after hedging than they could earlier in the year. This draw has likely brought in additional fixed income flows, indirectly supporting U.S. financial conditions (e.g. keeping Treasury yields in check, as noted). For equities, the concept is similar: lower hedging cost means a foreign investor can lock in USD returns with less drag, making U.S. equity investments more appealing at the margin.
Finally, the weaker dollar tends to boost global risk appetite in general. Historically, dollar downtrends coincide with easier global financial conditions, as many emerging markets breathe easier (their dollar debts effectively shrink and their local markets rally). In 2025, dollar softness has contributed to record inflows to emerging market funds and a risk-on mood globally. This positive global sentiment spills back into U.S. equities as well in a virtuous cycle of capital flows.
In summary, the dollar’s depreciation has been a tailwind for U.S. stocks by improving fundamentals (higher translated earnings) and by altering investor behavior to favor U.S. asset exposure. It is a reminder that currency movements are an integral part of the liquidity regime: a cheaper dollar is effectively an easing of financial conditions for the U.S. economy, analogous to a rate cut or a fiscal stimulus in its market impact.
6. Low Energy Prices and Robust Corporate Earnings
Another supportive macro factor has been the combination of declining energy (especially gasoline) prices and strong corporate earnings growth. Together, these trends improve profit margins and bolster investor confidence in the equity rally’s foundation. Unlike purely liquidity-driven effects, healthy earnings act as a fundamental anchor – and 2025 has delivered surprisingly robust earnings, aided in part by cost relief from cheaper fuel and tax benefits that pad the bottom line.
Input Cost Relief from Low Oil/Gas Prices: After the shocks of 2022–2023, global oil prices took a decisive turn downward in 2025. By October, Brent crude was trading around $62/barrel (down ~16% YoY) and U.S. WTI crude in the high $50s. This decline has been driven by oversupply (record U.S. production, unwinding of OPEC+ cuts) and softening demand amid a harsher macro climate. Critically, energy-intensive sectors are beneficiaries. For instance, airlines and transportation companies have seen fuel costs, often their largest expense, plunge, directly boosting profit margins. Cheaper jet fuel “translates to boosted profit margins” for carriers like Delta and United, potentially allowing lower fares or expansion. Similarly, refining companies benefit when crude input costs fall faster than product prices, leading to improved refining margins. Beyond specific sectors, the broad U.S. economy effectively got a tax cut at the pump: consumers saved on gasoline, freeing up dollars to spend on other goods (which supports corporate revenues in retail, leisure, etc.), while businesses from shippers to manufacturers enjoyed lower operating costs. Government data projected U.S. gasoline prices and heating costs easing into late 2025, contributing to a moderation in input cost inflation. Low natural gas prices (thanks to ample shale supply) further reduced utilities and petrochemical feedstock costs. All told, the energy price relief in 2025 has helped companies expand their profit margins or at least avoid margin compression, despite wage pressures in a still-solid labor market.
It’s worth noting that subdued energy prices also helped keep overall inflation in check, a crucial enabler for the Fed’s dovish turn. Core inflation benefited from stable or falling transportation and production costs. So, indirectly, low oil/gas bolstered liquidity conditions by removing a potential inflationary roadblock to Fed easing. The upshot is a positive feedback: low input costs improve earnings and keep inflation low, which allows low rates, which in turn support demand and valuations.
Tax-Adjusted Record Margins and Earnings: 2025 has seen U.S. corporate earnings power remain impressively strong, surprising many analysts who expected an earnings slowdown. Two factors contributed: robust demand (aided by the tax cuts and consumer resilience) and direct tax savings that inflated net income. On the latter, the summer budget bill’s business tax provisions significantly reduced companies’ tax liabilities. S&P 500 firms are estimated to receive about $148 billion in tax breaks in 2025 alone from the expensing changes and other corporate tax tweaks. These savings drop straight to the bottom line. Many firms boasted on Q2 earnings calls about the windfall: AT&T, for example, said the new tax law would cut its cash taxes by as much as $8 billion through 2027, and MGM Resorts disclosed it swung from owing $100 million in taxes to expecting a $100 million refund “a pretty meaningful change” due to the law. Such enhancements helped lift after-tax profit margins to near record levels in some industries. By effectively raising net margins (via lower tax expense), the policy changes reinforced the profit uptrend just as revenue growth was getting a boost from strong demand and pricing power.
Indeed, corporate America has managed to grow earnings in 2025 at a healthy clip. Consensus estimates for U.S. earnings growth were revised upwards as the year progressed. S&P 500 aggregate earnings were on track to post solid mid-to-high single digit growth, and even double-digit EPS growth appears plausible heading into early 2026 given the dollar and tax tailwinds. Sectors like tech and communications saw a rebound from the prior year’s dip, while energy sector profits (though down from 2022 highs) were offset by better results in consumer discretionary and industrials. Crucially, these earnings gains validate some of the liquidity-driven market exuberance. They provide fundamental coverage for rising stock prices, mitigating bubble concerns. As U.S. Bank’s analysts noted, equity investors in late 2025 took comfort that rate cuts were “responding to past data” (i.e. a slight growth softening) “rather than indicative of lower future growth.” Corporate earnings forecasts actually moved higher alongside stock prices, implying that the rally was underpinned by improving fundamentals, not just multiple expansion.
Furthermore, companies have been using their profit growth and tax savings to return cash to shareholders, which feeds the liquidity loop. The Lockheed Martin case is telling: after anticipating $400–$600 million in tax benefits from OBBBA, Lockheed promptly hiked its dividend by 4.5% and authorized $2 billion in stock buybacks. Many other firms have similarly ramped up buybacks in 2025, which directly adds demand for equities and supports prices. These flows from corporate treasuries to equity markets are yet another liquidity source enabled by high earnings and friendly tax policy.
2025’s profit story has been a positive surprise, margins proving resilient and even expanding after tax, and top-line growth holding up thanks to fiscal stimulus and consumer strength (aided by low fuel costs). This environment strengthens the overall liquidity positive regime: when fundamentals are sound, it encourages further risk-taking and justifies higher valuations, allowing the liquidity tailwinds (Fed easing, etc.) to translate more confidently into equity gains.
7. Downside Risk – U.S.–China Trade Tensions and Inflationary Wildcards
No analysis is complete without considering the key downside risk that could derail this liquidity-fueled rally: escalating U.S.–China trade tensions. In 2025, trade frictions resurfaced dramatically, threatening supply chains, fueling policy uncertainty, and posing the risk of a stagflationary shock that could upset the liquidity regime. While markets have largely looked past these risks so far (focused instead on domestic liquidity factors), the tail risk is significant. Investors must monitor how geopolitics might reintroduce inflation, disrupt collateral flows, or force a re-pricing of risk premia.
Supply-Side Disruptions and Inflation Risks: In October 2025, China announced new restrictions on exports of rare earth minerals which critical inputs for high-tech manufacturing, a move that rattled supply chains. This came on the heels of U.S. actions: President Trump dramatically hiked tariffs on Chinese imports to 145% across the board in 2025, with Beijing retaliating by raising its own tariffs on U.S. goods to 125%. These numbers dwarf the trade war tariffs of 2018–2019 and represent a severe resumption of protectionism, effectively reviving an all-out trade war. The immediate consequences include higher input costs for U.S. manufacturers that rely on Chinese components, potential shortages of key materials (like rare earths) that could stall production in industries from semiconductors to EV batteries, and rising consumer prices for imported goods. In short, the trade conflict introduces a stagflationary impulse: it can constrain supply (hitting growth) while pushing up prices (inflation). Fed officials have openly flagged this risk with Fed Governor Stephen Miran warning in mid-October that renewed U.S.–China tensions pose a “material downside risk” to the outlook, noting the situation “changed in the last week” once China moved on rare earths. He implied that such supply shocks could justify easier monetary policy to cushion growth, but policymakers can be hamstrung if inflation spikes at the same time.
For equity investors, the concern is that inflation could reignite, forcing the Fed to shelve its dovish stance and even consider rate hikes, which would quickly tighten liquidity. Tariffs are essentially taxes that filter into prices: for example, a 145% tariff means many Chinese made consumer goods would more than double in price for U.S. buyers. If such tariffs remain or expand, we could see headline inflation climb, and core inflation could get a bump from supply chain adjustments (companies rerouting supply or absorbing costs). Indeed, back in April the mere threat of new tariffs caused noticeable market volatility, and the Fed held off on rate cuts earlier in 2025 partly due to concerns that tariff-induced price increases could keep inflation above target. Thus far, some of the inflationary effect has been blunted by the dollar’s weakness (which actually adds to import cost, ironically) and by the fact that companies have not passed through all costs immediately, perhaps expecting a negotiation. But if tensions escalate or prove durable, inflation expectations could jump, undermining the low-inflation, low-rate backdrop that equity valuations are predicated on.
Collateral and Financial Channel Disruptions: A more financial twist to the U.S.–China standoff is the risk that China might weaponize its large holdings of U.S. Treasuries. China still holds around $760+ billion of U.S. Treasuries. Fears periodically arise that China could dump these bonds, either to raise dollars in a currency defense or to pressure the U.S. In April, as trade tensions worsened, questions swirled about this possibility. Treasury Secretary Bessent publicly dismissed concerns of China “weaponizing” Treasuries, noting that if China sold U.S. bonds, it would strengthen the yuan (the opposite of China’s economic goals) and that the U.S. and Fed have tools to counteract any such move. Nonetheless, the risk cannot be ignored. A sudden sell-off of Treasuries by a major foreign holder could spike long-term yields and drain liquidity from bond markets, at least temporarily. It might force the Fed to intervene (e.g. with emergency purchases) to stabilize the market – introducing uncertainty and possibly straining the Fed’s desired policy path. Such a scenario would disrupt the “collateral channels” we discussed; in a disorderly dump, Treasury prices would fall (yields up), collateral values would drop, haircuts might widen, and repo market stress could emerge. Essentially it’s a reverse liquidity effect.
Another channel is broader capital flow restrictions. Tensions could lead to financial decoupling, such as limits on U.S. institutional investment in China or vice-versa. This might cause portfolio rebalancing that impacts U.S. asset prices (e.g. if U.S. pensions had to trim emerging market exposure, or if Chinese firms delist from U.S. exchanges). While these are second-order effects, they contribute to higher risk premia and investors demand a bit more return to compensate for geopolitical uncertainty. Indeed, volatility in 2025 has periodically flared on trade headlines. The VIX and credit spreads spiked during tariff announcement weeks, reflecting a jump in risk premium, though they settled once it appeared talks resumed. The Financial Times and others have warned that supply chain pressure and sanctions risk are putting the market’s complacency to test. Market valuations could quickly adjust downward if it appears the trade war is out of control, eroding some of the rich multiples built on the assumption of stable globalization.
Uncertainty and Confidence: Beyond measurable impacts, the mere uncertainty shock from a deteriorating U.S.–China relationship can weigh on business confidence and investment. Companies might delay capex or inventory restocking if they fear tariffs could change or supply might be disrupted. This could moderate the growth outlook and corporate guidance – something to watch in earnings calls. For now, the U.S. economy has absorbed the tariff wave reasonably well, and the two sides have kept talking (as Bessent noted, any resolution would have to come from Trump and Xi directly). But the path is fragile. A misstep could send a risk-off wave through markets, with investors questioning whether the Fed and Treasury can keep the liquidity taps open in the face of an exogenous inflation shock.
In conclusion, U.S.–China trade tensions represent the key downside risk to this liquidity-driven equity boom. They hold the potential to upset the delicate balance of low inflation, ample liquidity, and strong growth that has prevailed. So far, policymakers have responded by leaning even more dovish (Fed Governor Miran even argued trade risks “make it more urgent” to cut rates faster), which ironically feeds the liquidity story. But if trade conflicts were to materially worsen, investors should be prepared for a possible regime shift, one where inflation and risk premia rise and liquidity becomes more constrained. This is the wildcard that could brake U.S. equities’ ascent, even as the other six factors remain supportive.
Conclusion: A Self-Reinforcing Liquidity Environment Driving Equities
As 2025 draws to a close, U.S. equity markets are riding high on an exceptional confluence of liquidity positive forces. Fiscal policy, monetary policy, and global capital flows are all working in tandem to create a feedback loop of easy financial conditions and robust asset demand. The Treasury’s bill issuance strategy unlocked idle cash and expanded collateral, feeding liquidity into the banking system at the same time the Federal Reserve’s rate cuts pushed investors out of cash and into risk assets. Massive tax cuts boosted corporate revenues and earnings, which along with falling yields, further eased financial conditions by validating higher valuations and encouraging buybacks. A weaker dollar brought in foreign capital and enhanced U.S. corporate profits, while low energy prices kept inflation low and margins high, reinforcing the case for equities. Each element amplified the others: for example, Fed easing weakened the dollar, which improved earnings, which lifted stocks, which improved financial conditions (the wealth effect), which allowed the Fed to ease more. The result is a self-reinforcing cycle of liquidity and growth.
This synergy is evident in market outcomes. Stocks and bonds have both rallied (unusual except in Goldilocks scenarios), credit spreads have narrowed, and measures of financial stress are low. Perhaps most telling, equity strength has persisted even through headwinds like the trade war flare-up, a sign that the liquidity regime is currently overpowering risk factors. The Fed and Treasury, whether by design or accident, have essentially coordinated a soft landing environment: the Fed’s “risk management” rate cuts and hints of ending QT complement the Treasury’s aggressive funding of stimulus via bills. Global investors, facing low yields and a cheaper dollar, have been compelled to pour money into U.S. markets, adding to the virtuous circle.
That said, vigilance is warranted. The U.S.–China tensions remain a latent threat that could yet shatter the calm by injecting inflation or uncertainty. But absent that catalyst, the path of least resistance seems upward. Liquidity begets liquidity: rising markets improve collateral values and confidence, which begets more lending and investing. It’s a classic late-cycle melt-up dynamic, underpinned this time by a unique alignment of fiscal largesse and monetary accommodation.
In sum, the U.S. equity outlook through end-2025 and into 2026 appears strongly supported by the macro liquidity backdrop. Barring a shock, the interplay of expansionary fiscal policy, easing monetary policy, and favorable global capital conditions has created a positive feedback loop. Investors should enjoy the ride, but also remain mindful of how quickly the pendulum can swing if one of the pillars of inflation expectations, policy coordination, or global stability were to shift. For now, however, the music is playing, liquidity is flowing, and U.S. equities continue to dance to the upbeat tune.
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Disclaimer: The information contained in this publication is for informational and educational purposes only and does not constitute investment, legal, or tax advice. The views expressed reflect current market and macroeconomic analysis as of the publication date and are subject to change without notice. Past performance is not indicative of future results. Readers should not rely on this material as the sole basis for investment decisions and should consult their own financial advisors before making any investment choices.
