Why the Bullish Thesis is Stronger Now
Just over two weeks ago, we and others cautioned that the 2024 rally would be tested in virtually every way as we’d get critical updates on growth, earnings, Fed rate cuts and the future of Washington. The rally passed all those tests and the momentum in this market remains definitively to the upside and a move decisively through 6,000 in the S&P 500 is likely a question of when, not if.
More specifically, each of the underlying supports for this market passed their tests. Soft Landing: The October jobs report, when adjusted for all the one-time impacts (Hurricanes, strikes) was likely in the low 100k, signaled a stable but not hot labor market. The ISM PMIs remained mixed with manufacturing solidly under 50 (contraction) but the ISM Services over 50 (expansion). September retail sales were solid, and jobless claims have dropped back to recent lows. The economic reports of the past two weeks, in aggregate, were Goldilocks and 1) Imply a soft landing is still likely and 2) Give the Fed room to cut rates.
- Fed Rate Cuts. As the Fed showed us last Thursday, it remains committed to cutting rates and we likely will get another cut in December and the cutting cycle will continue in 2025. Neither the election results nor the recent economic data (inflation or growth) dissuaded the Fed from remaining committed to gradual cuts (a positive for the economy and markets).
- Earnings. The Q3 earnings season was more mixed than excellent, but in aggregate the 2025 S&P 500 earnings estimates remain around $275 and as such, the valuation issues facing this market didn’t get worse. Additionally, with the new administration (more on that in a minute) there may be policy tailwinds on future earnings, potentially boosting 2025 expectations.
- Washington. Republicans will sweep the election and have large enough majorities in the House and Senate to likely push through pro-growth legislative changes.
Bottom line, the bullish thesis for 2024 of 1) Soft landing, 2) Fed rate cuts and 3) Solid earnings growth was tested and not only did it hold up to that test, the Republican sweep made the bullish thesis stronger. To that point of a stronger rally, timing matters. The S&P 500 is up 25.7% YTD. (We did not make 25% because we invested a bit more conservative than than the S&P) There are seven trading weeks left in the year. No one wants to see these gains reversed and as such, investors will likely take a very positive view of all of the past two weeks’ events and a continued rally into year-end (Santa rally) would not be a surprise.
However, while the bullish thesis passed the tests of the past two weeks, do not confuse this with a market that cannot go down. There are real risks to this rally that we cannot ignore over the medium/longer term, although investors could ignore them unless forced not to between now and year-end. Specifically, while growth is solid, it’s still slowing.
Everyone assumes the October jobs report was an anomaly. What if it wasn’t? Clearly job creation is slowing. If that continues, it’ll turn to job subtraction in early 2025. Point being, the economy looks like it’s in a soft landing but that doesn't mean growth can’t slow more than expected. Politically, while investors are embracing the virtue of a Republican sweep, there are risks to the pro-growth agenda and trade policies.
The “bond vigilantes” are back and if the Republicans pro-growth plan busts the deficit (even more than it already is) then rising yields will inject volatility into this market, regardless of growth. (this is the reason mortgage rates remain stubbornly high) On the Fed, pro-growth tailwinds may cause the Fed to slow rate cuts, undermining an important reason behind the 2024 rally.
Geopolitically, things can get much worse! Obviously trade volatility and trade wars are a real possibility in 2025. Meanwhile, the world remains a tinderbox and Trump’s foreign policy will differ materially from the last four years. There are no guarantees things don’t get worse! The positive events of the past two weeks plus very strong seasonals mean the path of least resistance in this market is higher and a move to 6,200 on the S&P 500 before year-end is entirely possible. But don’t confuse those moves for a “perfect” market set up, because this market still has risks, it still has problems, and stocks can indeed still go down in 2025 if those risks materialize (now there’s virtually zero room for disappointment).
That being said, I will remain in current investments until the end of the year. Then I will toy with the idea of moving 1/3 of money in managed accounts and mutual fund accounts to more defensive positions. Annuities will remain as is since they have downside protection.
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