What’s behind May’s U.S. stock market rally and can it last?

With the NBA season coming to a close, basketball fans have been talking about the phenomenal comebacks that characterized the playoffs all throughout May. But exciting as these resurgences are, we’re here to talk about another recent rally: the markets.

U.S. stocks (+6.3%) staged a big comeback throughout the month, with a recovery rally that brought the S&P 500 back to positive territory on the year after a near-20% selloff in April. In fact, May marked the S&P 500’s best month since November 2023. International stocks posted gains on the month, too.

Below, we explore two key themes that drove markets in May: tariff developments and the conversation around U.S. government debt. We also dive into how the economy is faring and what to watch for in the months ahead.

Tariff developments between the U.S. and China played a role

The tariff saga didn’t slow down in May, but the tone did shift. Over the course of the month, multiple developments kept investors on their toes. In mid-May, the U.S. and China deescalated their trade tensions via a 90-day détente whereby the U.S. reduced its “reciprocal” tariff rate to 30% from 145% and China cut its duties on U.S. imports to 10% from 125%. Markets responded positively.

As tensions with China eased, however, President Trump shifted his focus to the European Union with threats of a 50% tariff on EU imports. The tariffs were initially set to go into effect on June 1, but that was quickly pushed to early July. The final week of May brought a U.S. trade court ruling that blocked most of the “Liberation Day” tariffs, but that didn’t last long: Less than 24 hours later, an appeals court temporarily paused the ruling, allowing tariffs to stay in effect for now.

What matters more than the tariff rhetoric is the actual tariff impact. Data from the Treasury shows that U.S. businesses are indeed starting to pay the tariffs. The chart below shows that tariff collections surged to approximately $24 billion in May. This is three times more than the amount from the same period in 2024. The latest data would imply an effective tariff rate of roughly 6.5%, which remains below our expectation for a 10–15% effective tariff rate by year-end. Said another way, the tariff impact is starting but not yet at full force.

When May was all said and done, the MSCI World index rose 6% on the month, and the S&P 500’s recovery rally was hardly disrupted. If anything is clear, it’s that the tariff story is far from over. Read our recent Top Market Takeaways to dive deeper on our latest thoughts.

The U.S. government deficit and debt dilemma

U.S. Treasury yields rose in May as investors turned their attention to perceived fiscal challenges, including the passage of a deficit-increasing budget reconciliation bill in the House and a downgrade of the U.S. credit rating by Moody’s.

The House narrowly passed "One Big Beautiful Bill," a tax and spending package aimed at extending President Trump’s 2017 Tax Cuts & Jobs Act, increasing spending on defense and border security, and cutting spending from programs like Medicaid and Supplemental Nutrition Assistance Program (SNAP). The Penn Wharton Budget Model projects that the reconciliation bill could add approximately $3.2 trillion to the debt over 10 years, but those estimates are subject to change as the bill moves to the Senate. Some fear that wider deficits could potentially put upward pressure on Treasury yields in the years ahead as investors demand more compensation for lending money to a heavily indebted U.S. government.

As the bill was being negotiated, credit rating agency Moody’s decided to cut the U.S. credit rating from Aaa (i.e., the highest rating) to Aa1 (i.e., the second-highest rating). In its report, Moody’s cited persistently large budget deficits and rising interest costs as reasons for the downgrade. While the downgrade does not dramatically shift the narrative given this isn’t the first time that the U.S. has been downgraded – S&P and Fitch took similar actions in 2011 and 2023, respectively – it does suggest potential further upside risks to U.S. government bond yields.

Rate volatility stemming from the aforementioned dynamics was exacerbated by a weak Treasury auction in the middle of the month, where a $16 billion sale of 20-Year bonds saw soft demand. Core bonds posted a modestly negative return in May but have generated positive returns year-to-date.

Unemployment and inflation held steady

There has been a lot going on in 2025, and May was no exception. But what didn’t happen over the past month might be considered just as important as what did.

In March, consumer confidence dropped to the lowest levels we’ve seen since 2021, showing that concerns over tariffs, inflation pressures and general economic uncertainty were weighing on Americans’ minds. As sentiment and survey data weakened, hard data (which provides insight into real economic activity) held steady, but the question was how long the resilience could last. Poor sentiment can lead to self-fulfilling prophecies, where fears about the future influence economic decision making today.

The good news? The hard data held up well in May. The latest payrolls report, covering the month of April, showed that the economy added more jobs than expected while the unemployment rate held steady at 4.2%. Inflation continued to look non-threatening, with the latest Consumer Price Index data showing a modest 0.2% increase month-over-month. This was the third month in a row of softer-than-forecasted inflation readings, suggesting that the feared inflationary pressures from tariffs have not yet materialized.

The Federal Reserve is in the same boat that we all are: waiting to see if tariffs are starting to meaningfully impact the labor market and prices. We think the feed-through to the economy will happen with a lag, and we expect the Fed to consider additional rate cuts toward the end of the year.

The bottom line

For many investors, May’s positive price action was encouraging to see – especially after April’s significant market volatility. Still, we urge investors not to get complacent and instead find ways to bolster the resilience of their portfolio. Our 2025 Mid-Year Outlook explores different levers that investors might pull to do so – learn more here.

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