We made a number of adjustments during the period, capitalizing on April’s pullback to add several high-quality holdings in areas such as media and real assets, which are cheap insurance against higher inflation.
Today’s investment landscape feels like a garden that looks thriving and orderly on the surface but that has started to grow chaotic underneath. Above ground, the stock market is near all-time highs, brushing off bad news with ease, while geopolitical tension, deglobalization, rising debt levels and supply chain disruptions remain at the root level. Nominal growth may be faster but it is also more volatile, unpredictable and fluctuating. The blooms look good, but the sun provided by declining interest rates, low inflation and central bank support over the last few years is no longer shining. Companies must look within for resilience.
Beneath the surface, structural innovations are reshaping the very foundation of growth. AI, blockchain technology, GLP-1 therapies and decarbonization are altering the soil that businesses rely on to grow. Entire business models, such as traditional software companies, are under threat as AI can generate similar outputs instantly — and often at near-zero cost. Meanwhile, corporate traits like proprietary data, technological edge and agile leadership are becoming essential. Similar to how the internet disrupted brick-and-mortar retail, this wave will be disruptive, but will be more far reaching, more impactful and faster.
However, changes in the soil can also leave plants susceptible to changes in the weather that they otherwise could have survived. For instance, firms making marginal returns under low interest rates will need more capital just as capital gets more expensive. As these two forces come into greater conflict, we’ll likely see new business species emerge — better suited to the new mix of weather and soil.
The End of the Beginning
“2025 marks the end of the beginning of the regime shift.”
If the years following the Global Financial Crisis (GFC) marked the beginning of these tectonic shifts, then 2025 marks the end of the beginning of this regime shift. What makes this decisive is not just the pace of change, but the convergence of multiple structural breaks. Long-standing macro pillars are unwinding simultaneously: the 80 years of U.S.-led geopolitical order, the 35 years of globalization and the 15-year era of ultra-low interest rates.
Exhibit 1: Geopolitical Risks Show Signs of Ticking Up
As of July 2025. Source: Caldara, Dario and Matteo, Iacoviello. The GPR index reflects automated text-search results of the electronic archives of 10 newspapers and calculated by counting the number of articles related to adverse geopolitical events in each newspaper for each month (as a share of the total number of news articles).
A key accelerant has been Donald Trump’s tumultuous return to the presidency — a monsoon in the market garden — most visible in his early April tariff announcement, which, even with temporary exemptions, carry global and far-reaching implications. Geopolitical weeds are also taking root: the war in Ukraine grinds on, Israel and Iran have traded salvos and U.S.-China tensions remain high.
However, the difference is real interest rates. For the first time in decades, the U.S. Treasury is paying a meaningful yield on new debt and annual interest expense on U.S. government debt is approaching $1 trillion. This is no longer just a balance sheet issue to defer — it’s an income statement problem demanding immediate attention.
If the post-2008 era was defined by surpluses — of capital, labor, goods and trust — the post-2025 world will feature scarcity. In this new era, governments are racing to localize supply chains and build strategic stockpiles, meaning large-scale duplication of infrastructure and manufacturing across a world increasingly split between the West and the East in order to ensure military systems, energy supply, metals and food reserves and pharmaceuticals.
Much of this new capacity is being built in high-cost regions, by players with little comparative advantage. The result is not just inefficiency, but a massive deadweight loss that drives up the cost of everything needed to construct these new systems: capital, labor and materials. Meanwhile, countries like China will continue to hold excess capacity, but that will no longer be used efficiently. Underinvestment in commodities and power infrastructure will further amplify the cost of shifting supply chains.
“Where supply is constrained and demand is inelastic, inflation turns from a headwind into a tailwind.”
The outcome is a new regime of sticky cost pressures, with a potential consequence of persistent inflation. Affordability becomes an issue for all kinds of buyers, consumers, corporations and especially governments. Fiscally, the government will increasingly struggle to fund its spending, while the mandates driving spending — defense, essential supply chains, technological competition in AI and automation, and climate adaptation — are non-negotiable. Whether funded directly through fiscal programs or indirectly via corporate mandates and incentives, these priorities might crowd out spending on health care, education and social programs. Over time, higher taxes may even be on the table. Meanwhile, sovereign debt issuance is set to continue to rise. Most developed nations already carry high debt-to-GDP ratios, but the spending demands outlined above leave them little choice. To fund defense, industrial policy and climate adaptation, governments will either issue more debt or monetize it — or both.
While fiscal spending can support headline GDP growth — especially through higher inflation — the underlying returns on that spending are likely to disappoint. For corporations, margin pressure is intensifying on multiple fronts since structural inflation means higher input, energy and labor costs as well as increased interest expense. Free cash flow conversion could drop due to rising capital expenditure.
More importantly, this new regime will be reshaped by the tech innovations unfolding beneath the surface — some shifts may be offset, others reinforced. For instance, AI could help ease labor shortages by automating routine jobs and counterbalance the inflationary pressure. The resulting productivity gains might be strong enough to counter inflationary pressures in other parts of the economy and, if so, the value created could help fund other investment needs and allow the cost of capital to remain at today’s levels. AI might also help companies offset margin pressure through efficiency improvements. But in reality, this won’t be seamless. The current boom in infrastructure investment and supply chain reshoring is driving up demand for physical labor. For many companies, margins may dip before any AI-driven efficiencies show up, due to the scale and timing of the upfront investment required.
Of course, everything above is only a first-order inference. Macro shifts never unfold in isolation. They are always shaped, counterbalanced and sometimes even reversed by how different actors — governments, corporations and investors — respond.
What’s striking is that the forces above and below the surface are converging in one critical way: they are all driving up the demand for the capital, tools and resources needed to build infrastructure. Whether it’s defense, supply chain resilience or data centers, all require similar inputs. Power infrastructure and technical talent are becoming universally indispensable.
The ClearBridge Value Strategy outperformed in its Russell 1000 Value Index benchmark in a subdued period for value stocks. The resurgence of investor interest in the AI theme fueled strong performance of merchant power producers Vistra (VST) and Talen Energy (TLN), driving relative outperformance in the utilities sector. Both companies stand to benefit from the strong, long-term trend toward higher power prices as AI development continues to require new data centers brought online and greater power supply.
In communication services, one of our leading contributors was recent addition Walt Disney (DIS). We initiated a position in the entertainment company during the first-quarter tariff volatility, as fundamentals were turning higher and earnings estimates began to rise as its streaming business continued to scale. Additionally, the shift in management’s strategy, from “market share growth at all costs” to an approach more focused on improving pricing, should also improve both profitability and margins, and we see meaningful upside compared to other streaming service providers.
Our overweight to the health care sector weighed on relative performance due to investor anxiety over Trump’s announced plans to regulate drug prices. These headwinds weighed broadly on our pharmaceutical and biotech holdings, such as Johnson & Johnson (JNJ) and Gilead (GILD). In addition, UnitedHealth Group (UNH), the leading health insurance company, derated due to a weaker outlook on higher than anticipated medical costs and revenue shortfalls. Despite the remaining earnings risk and a government investigation into its billing practices, we like the return of its well-respected veteran leader Steve Hemsley to the CEO position and the potential to recover underwriting margins in its Medicare Advantage business.
Our largest new position during the quarter was Newmont (NEM), a gold and precious metals miner. In addition to adding a level of insulation against further deterioration of the U.S. federal debt situation, as gold prices would likely rally, Newmont’s ability to generate free cash flows has tracked gold prices higher — a fundamental tailwind that has not yet been captured at its current valuation. Newmont has also initiated a strategic plan to return capital to shareholders and pay down its debt.
We exited PepsiCo (PEP), in the consumer staples sector. Although the company’s international business has been executing well, the continued lack of a clear strategy to turn around the slide in snacks continues to weigh on PepsiCo’s long-term trajectory. Combined with shifting consumer preferences away from its core brands toward health-focused alternatives and the dissemination of GLP-1 medication, we elected to exit the position in pursuit of areas offering greater opportunity.
Currently, we think the U.S. economy is being supported by continued fiscal expansion, with deficits running at levels more typical of recessions. While the unsustainability of continued fiscal expansion is causing major macro concerns, for now deficit spending continues to support the U.S. economy and shield it from the shocks of tariffs and ongoing geopolitical shifts.
However, we think tariffs and immigration policies will result in higher inflation and less growth in the second half of the year. We are finding opportunities in areas like real assets, including gold and copper, which are cheap insurance against higher inflation, a lower U.S. dollar and the ongoing geopolitical risks. On the other side, AI spending and growth will occur regardless of the macro environment, and we continue to benefit from the enablers of AI such as power and computational memory.
The ClearBridge Value Strategy outperformed its Russell 1000 Value Index during the second quarter. On a relative basis, the Strategy had positive contributions from seven of the 11 sectors in which it was invested. The leading contributors were the financials and industrials sectors, while health care detracted the most.
On a relative basis, overall stock selection contributed to performance while overall sector allocation effects detracted. Stock selection in the utilities, communication services, materials, financials, IT and industrials sectors benefited performance. Conversely, stock selection in the consumer staples sector, overweights to health care and energy and underweight allocations to industrials and IT weighed on performance.
On an individual stock basis, the biggest contributors to relative returns were Vistra, Microchip Technology (MCHP), Micron Technology (MU), Talen Energy and Meta Platforms (META). The largest detractors from relative returns were UnitedHealth, PG&E (PCG), Fiserv (FI), Schlumberger (SLB) and Hess (HES).
During the period, in addition to the transactions listed above, we initiated new positions in Amdocs (DOX) and Globant (GLOB) in the IT sector, Charter Communications (CHTR) in the communication services sector, Corcept Therapeutics (CORT) and Elanco (ÉLAN) Animal Health in the health care sector and Expedia (EXPE) in the consumer discretionary sector. We exited positions in Venture Global (VG) in the energy sector, WillScot and Uber (UBER) Technologies in the industrials sector, Seagate Technology (STX) in the IT sector, Jones Lang LaSalle (JLL) in the real estate sector, Global Payments (GPN) in the financials sector and T-Mobile US (TMUS) in the communication services sector.
Reed Cassady, CFA, Managing Director, Portfolio Manager
Sam Peters, CFA, Managing Director, Portfolio Manager
Jean Yu, CFA, PhD, Managing Director, Portfolio Manager
Editor’s Note: The summary bullets for this article were chosen by Seeking Alpha editors.
