There are quiet weeks on Wall Street, but there are no idle weeks. The broader S&P 500 index barely pulled back the curtain last week, rising 0.3%, slowing a two-week 5.5% rebound and ending just a quarter short of its Oct. 28 closing high. The slow, but positive development reflects the sector-to-sector rotation that supported the tape and dampened volatility, with the sector-to-sector rotation getting the market back into gear in November. I started bleeding for the first time in almost 6 weeks towards the 15th. .SPX YTD Mountain S&P 500, year-to-date But look and listen closely and a more emphatic message emerges: the Fed is repositioning the market to reaccelerate the economy, following a strategy often broken early in the cycle when it eases policy. Last week, the Dow Jones Transportation Average rose 3.6% against flat benchmarks, the regional bank group overall rose 2.7% and the State Street SPDR Retail ETF rose 2.2%. The small-cap Russell 2000 index’s new closing record is thanks to low-quality speculative stocks among its largest components, but it also resonates with the notion that growth will pick up as soon as the Fed cuts rates next week. Broader cyclical sectors hold an advantage over defensive groups. Goldman Sachs strategists plotted this relationship alongside the Street consensus on U.S. real GDP growth. Both are moving in the desired direction. Still, it should be noted that the last time these lines diverged to the same extent was at the end of 2024, when the crowd was relentlessly betting on the new administration’s “pro-growth policies” to revitalize the economy. This is not to suggest that another growth shock, comparable to the tariff panic earlier this year, is ahead. But this is a reminder that markets lack perfect foresight into the economic future even months into the future. Brokerages don’t think this year will be a downturn.Brokerage strategists are singing to the market’s upbeat tune, handicaping what will happen in 2026. More than a dozen companies have released their outlooks, and I’ve read most of them. The average target value for the S&P 500 is about 7,600, from which it has risen about 11%. That’s not a flashy return, but it’s a little higher than last year’s average, and no company expects this year to be flat or down. There is broad agreement to support the S&P 500’s consensus forecast for earnings growth of 14%, the assumption that margins will remain strong, and the belief that the index can maintain most of its valuation (currently 22.5 times expected 12-month earnings). The increase in personal tax refunds in the first quarter is at the top of strategists’ conversation, perhaps exaggerating the lasting impact. There is no doubt that the administration is adjusting fiscal policy to revitalize the economy in 2026, and Wall Street has been playing around with this scenario extensively. The consensus predictions above are certainly plausible. As I always say, just as politics is the art of possibility, investment strategy is the art of plausibility. But even reliable scripts written by committee rarely last a year. Bank of America strategist Savita Subramanian is more cautious about the S&P 500’s return next year, predicting a modest rally to 7,100 and “mid-double-digit earnings growth, but multiples compressed by 5% to 10%.” He sees the story of building AI becoming more volatile and returns on capital declining as the capital flow backdrop becomes less generous. “Liquidity is great today, but the direction is probably no better. Buybacks are down, capital spending is up, central banks are cutting rates less than last year, and the Fed will only cut rates if growth is weak.” A stock market that “expands” as capital moves into older areas of the economy is what so many professional investors want, but it doesn’t necessarily pander to the composite index. And it’s once again important to track each tick in long-term bond yields, potentially reacting to them by pushing yields high enough to counter the same “reflation” moves that stock markets are sniffing out. U.S. Treasuries have been extremely stock-friendly in recent months, trading in a moderate range. Still, the 10-year Treasury yield has been unable to stay below 4%, rising to 4.14% last week. Although not yet at a threatening level, breaking out of the 11-month downtrend line is not far off. US10Y YTD Mountain 10-Year Treasury Yield, Year to Date In today’s stock market, the starting point for fresh money purchases is pretty tough by some metrics. Julian Timmer, head of global macro at Fidelity, calculates a version of his stock and bond valuation model using an implicit equity risk premium. We use current valuations and Treasury yields, plus a long-term earnings growth assumption of 6% to 7%, to derive future earnings expectations. From current levels, he said, “the next five years (compound annual growth rate) will always be below the market’s long-term CAGR of 10%. And half of the time we won’t even exceed the 3% inflation rate. This is not to say the market will decline over the next five years, just that there is a good chance the market will be below average.” Again, this market has ignored the valuation-based mean reversion argument for years. Five years ago, the S&P 500 price-to-earnings ratio was more than 23 times, higher than almost every measure since 2000, and it has continued to compound at nearly 15% annually since then. Why not fight the Fed? The “don’t fight the Fed, don’t fight the tape” rule still favors the rally, as the index quickly recovers from a 5% decline and short-term interest rates are scheduled to be cut further in the coming days. And certainly, even if last year’s market slipped to the finish line, there doesn’t seem to be any real benefit to betting against a late-December upside bias. Further insulating bull markets: Most three-year bull markets last four years, like this one. The S&P 500’s nearly 17% year-to-date rise seems exactly in line with what should be expected, with non-U.S. stocks up 28% and the Fed on track to complete a 175-basis point rate cut in 15 months with no recession in sight and easing financial conditions. Moreover, last spring’s nearly 20% mini-crash in the S&P 500 index, which occurred 2.5 years after a 20%, 9-month bear market, means that we are not, in any material way, past the “deadline” for a hard payback. For now, the tape is reassuringly softening the bond with crypto prices, which are still near recent lows even though the stock index has largely recouped its losses. In other words, there’s not much to complain about with 17 working days left this year, but there’s enough to reflect on in some quiet time.
