A Historic Shift in Global Equity Markets: Q3 2025 Capital Market Assumptions
As we close out the third quarter of 2025, FinMason’s latest Capital Market Assumptions reveal a watershed moment in global equity markets—one that should fundamentally reshape how investors think about portfolio construction and geographic diversification.
A Ten-Year First: North American Equities Below 2%
For the first time since we began running our long-term linear regression models a decade ago, our ten-year expected return for North American Equities has fallen below 2%, dropping to just 1.86% as of September 30, 2025. This represents a dramatic decline from the 2.87% expected return we projected just three months earlier at the end of Q2.
This isn’t a minor adjustment—it’s a 101-basis-point collapse in a single quarter, signaling that North American equity valuations have reached levels that simply cannot sustain historical return patterns over the next decade. With an R-squared of 0.93, this is one of our most statistically robust models, giving us high confidence in this sobering projection.
The Global Opportunity Has Never Been Clearer
While North American markets have become historically expensive, the opportunity set elsewhere in the world has expanded dramatically:
Developed Asia Equities now offer the most compelling developed market opportunity, with expected returns surging from 5.32% in June to 7.57% in September—an increase of 225 basis points in a single quarter. This region now offers a remarkable 571 basis point premium over North American equities.
Developed Europe Equities similarly strengthened, rising from 6.47% to 7.20%, providing a 534-basis-point advantage over North America. The consistency of this projection (R-squared of 0.82) reinforces the validity of this opportunity.
China Equities, while declining slightly from 10.15% to 9.46%, still offer the highest expected returns in our entire model set—a full 760 basis points above North American markets. However, investors should note the lower R-squared (0.75) suggests higher uncertainty around this projection.
Emerging Market Equities present an interesting counterpoint, with expected returns declining from 5.79% to 5.18%. While still offering a 332 basis-point premium over North America, this marks a divergence from the developed-market trend and warrants close monitoring. That said, with an R-squared of 0.88, this remains one of our most reliable models.
The Small Cap Growth Opportunity
Beyond geographic diversification, our Fama-French factor analysis reveals another compelling insight: Small Cap Growth stocks are positioned for meaningful outperformance.
The Size factor (Small Minus Big) stands at +1.09% with a strong R-squared of 0.86, indicating that small-cap stocks are expected to outperform large caps by over 100 basis points annually. Meanwhile, the Value factor (Value Minus Growth) shows -0.86% (R-squared 0.71), suggesting growth stocks will outperform value by a similar magnitude.
Combined, these factors indicate that small-cap growth strategies could add nearly 2% in annual alpha over the next decade—a dramatic reversal from the large-cap value dominance we’ve seen in recent years.
Fixed Income and Rate Environment: A Complex Picture
The interest rate environment presents a nuanced picture:
Short-term rates have declined significantly, with the 3-month rate falling from 4.00% to 3.02%—a signal that the Federal Reserve may be entering an easing cycle. However, longer-term rates remain elevated:
- 10-Year Treasury: 4.16% (down slightly from 4.24%)
- 30-Year Treasury: 4.73% (down from 4.78%)
The 1-year and 5-year rates (1.46% and 1.92% respectively) suggest the market anticipates continued economic uncertainty in the intermediate term before normalizing at higher long-term rates.
Credit spreads have tightened, with the BBB-AA spread narrowing from 0.97% to 0.85%, indicating improving credit conditions and reduced risk premiums in corporate bonds.
Commodities: Inflation Hedge Strengthening
Both gold and oil projections have strengthened:
- Gold: Expected returns increased from 6.22% to 6.78% (R-squared 0.72)
- Oil: Expected returns rose from 4.06% to 4.65%
These increases, combined with the declining dollar (Trade Weighted Dollar at -1.76%), suggest our models are pricing in persistent inflation concerns and potential dollar weakness over the next decade.
What This Means for Investors
The implications of these shifts are profound:
- Home bias has become extraordinarily expensive. U.S. investors maintaining heavy North American equity overweights are accepting dramatically lower expected returns—potentially sacrificing 5-7% annually compared to developed international alternatives.
- Geographic diversification has moved from optional to essential. The dispersion in expected returns across regions is now wide enough that allocation decisions will likely be the primary driver of portfolio performance over the next decade.
- Factor investing deserves renewed attention. The small cap growth opportunity identified by our models represents a tactical overlay that could meaningfully enhance returns, particularly for investors willing to tolerate additional volatility.
- The yield curve tells a story of transition. The inverted short-to-intermediate curve suggests near-term economic uncertainty, while elevated long-term rates indicate markets expect sustained nominal growth (or inflation) over the decade ahead.
- Commodities warrant consideration. With expected returns of 6-7% and negative dollar correlation, gold in particular offers both return potential and portfolio diversification benefits.
Lessons from 2000: Navigating Bubbles Without Calling Tops
I lived through the 2000 tech crash, and it taught me an invaluable lesson: betting against a bubble can be just as dangerous as riding it too long. Financial bubbles have a stubborn tendency to inflate higher and persist longer than anyone expects, and calling a market top is a fool’s game.
Many experts were already declaring the tech bubble in 1999, a full year or more before it actually burst. Those who positioned defensively too early watched in frustration as the market continued its ascent, leaving them behind. As John Maynard Keynes famously observed, “markets can remain irrational longer than you can remain liquid.”
What I remember most clearly from 2000 wasn’t the valuation models finally making sense—it was the frauds. When WorldCom and Enron unraveled, that’s when we knew something fundamental had broken. The frauds weren’t the cause of the crash; they were the symptom that emerged when the music finally stopped and everyone could see who’d been swimming naked.
A Practical Framework for Today
Given our models’ projections and the lessons of history, here’s how I believe investors should respond to today’s elevated U.S. equity valuations:
1. Focus on appropriate long-term asset allocations. This isn’t about market timing—it’s about ensuring you’re not overexposed to the most expensive markets. Review your portfolio honestly: are you overallocated to U.S. stocks, particularly large-cap tech? If so, rebalancing isn’t “calling a top”—it’s simply maintaining discipline.
2. Consider larger allocations to non-U.S. equities. International stocks have outperformed this year, and our models suggest this trend is likely to continue. A 571-basis-point expected return advantage for Developed Asia over North America isn’t noise—it’s a structural opportunity that deserves serious consideration in your strategic allocation.
3. Watch for the frauds. The most reliable signal that a bubble is bursting isn’t valuation models or sentiment indicators—it’s the emergence of large-scale fraud. When companies that appeared invincible suddenly reveal fundamental accounting irregularities or business model deceptions, pay attention. That’s when the tide goes out.
4. Expect continued volatility and corrections. The path to a market top is rarely smooth. There will likely be more volatility, sharp corrections, and nauseating rebounds on the way up. Each correction will tempt you to declare “this is it,” but remember: the bubble can always go higher. Don’t confuse normal volatility with the end of the cycle.
The key is to position yourself so that you can benefit from continued market strength while not being devastated if and when the bubble bursts. That means proper diversification, appropriate risk management, and the discipline to stick with a sound long-term allocation rather than trying to time the exact top.
Our Methodology
These projections are generated using FinMason’s proprietary long-term linear regression models, which analyze historical relationships between current market conditions and subsequent ten-year returns. The R-squared values reported alongside each projection indicate the statistical reliability of each model—values above 0.70 suggest strong predictive relationships.
While no model can predict the future with certainty, ten years of real-world validation have demonstrated the robustness of this approach.
The Bottom Line
September 2025 marks an inflection point. The combination of stretched North American valuations, compelling international opportunities across both European and Asian developed markets, and a complex but ultimately constructive fixed-income environment creates a market landscape unlike any we’ve seen in the past decade.
The numbers are unambiguous: North American equities at 1.86% expected returns simply cannot compete with Developed Asia at 7.57%, Developed Europe at 7.20%, or even China at 9.46%. Investors who fail to adapt to these new realities risk leaving substantial returns on the table—or worse, exposing themselves to a decade of disappointing performance in overvalued domestic markets.
The data is clear: it’s time to think globally, consider factor exposures carefully, embrace commodities as inflation hedges, and build portfolios that reflect where value actually resides rather than where it’s most familiar.
Capital Market Assumptions Summary
Philip Taylor is President and Chief Analytics Officer of FinMason , Inc., where he oversees the development and implementation of an extensive set of models and tools for lightning-fast portfolio analytics.
The views expressed in this article are those of the author and do not constitute investment advice. Past performance is not indicative of future results. Expected returns are model-based projections, and actual results may vary significantly.
