Daily Stock Market Articles

Election Week Trading Stats. Meh.

Trading during presidential election week has been underwhelming over the years. Here are the data. My previous post of November market performance chart shows the bulls don’t usually take charge until the latter part of November.

 

Presidential Election Day to Yearend Historically Bullish

With a clear winner decided the history of market gains from Presidential Election Day to Yearend is encouraging. As you can see from the tables above and below the market tends to rally from Election Day to Yearend with a few exceptions due to exogenous factors.

Profit taking at the end of 1984 kept stocks flat after the rally off the July bear market bottom in anticipation of Reagan’s landslide reelection victory. The infamous undecided election roiled stocks at the end of 2000 amid the 2000-2001 dotcom bear market. The Great Financial Crisis and 2007-2009 generational bear market plunged further in late 2008 on shrinking economic data and uncertainty over a change in party and the new incoming, unknown Obama administration. The mushrooming European Debt Crisis had the stock market on edge in late 2012.

But overall, from Election Day to Yearend DJIA is up 72.2% of the time with an average gain of 2.38%. S&P 500 is up 66.7% of the time with an average gain of 2.03%. NASDAQ is up 76.9% of the time with an average gain of 1.50% and Russell 2000 is up 61.5% of the time with an average gain of 4.93%.

 

The Day After...2016 Redux
Wed, Nov 6, 2024

US equity markets are up big today after President Trump's victory in last night's election. The average stock in the Russell 1,000 is currently up 2.17%, while the Financials sector ETF (XLF) is up more than 5% on the day.

While many market prognosticators went into the 2016 election saying that a Trump victory would be terrible for the stock market, the same upside reaction that we're seeing today occurred on the day after Trump's victory in 2016. (And as a reminder, Dow futures fell 1,000+ points immediately following Trump's victory back in 2016 before eventually flipping sharply higher.)

The underlying action in the stock market today looks remarkably similar to the action we saw on this same day in 2016.

Below is a look at the average performance of stocks in the Russell 1,000 today broken out by sector versus how they performed on the day after the 2016 election.

The three sectors that are selling off today are the same three that sold off following Trump's win in 2016: Real Estate, Utilities, and Consumer Staples.

On the flip side, the three sectors performing the best today are the same three that performed the best in 2016: Industrials, Energy, and Financials.

Notably, the three best and worst performing sectors today were also the three best and worst performing sectors on the day after Trump won in 2016.

In the middle of the pack, we're seeing Technology and Communication Services outperform their 2016 action today, although Communication Services didn't have some of the big social media companies in it eight years ago. And Health Care and Materials -- while still up -- aren't performing as well today as they did back in 2016.





While it may be tempting to pile into the three sectors performing the best today because of Trump's victory, the three sectors that performed the best on the day after Election Day 2016 ended up being some of the worst-performing sectors during Trump's first four-year stint in office.

As mentioned above Financials, Energy, and Industrials were the three best-performing sectors on the day after the election in 2016, and they're also the three best-performing sectors today. As shown below, though, Energy (XLE) would go on to fall 49% from the day after the 2016 election through the day before the 2020 election, while Financials (XLF) was the second worst sector ETF during that time frame and Industrials (XLI) was on the lower end of the performance pack. On the flip side, it ended up being Technology (XLK) and Consumer Discretionary (XLY) that performed the best between the 2016 and 2020 elections even though they weren't big standouts on the day after the 2016 election.



As far as the action goes today, Financials are soaring. Below is a look at the 20 best-performing stocks in the Russell 1,000 so far today. 14 of the 20 are from the Financials sector, and all of them are up more than 12%. Outside of the Financials, Tesla (TSLA) is also on the list with a gain of more than 13%. Given Elon Musk's very vocal support of President Trump this election cycle, the action in TSLA should come as no surprise.

 

Will International Stocks Ever Outperform Again?
Wed, Nov 6, 2024

On the heels of last night’s election results, we’ve seen some major moves in equities on a global scale. While the S&P 500 is up over 2% today, the MSCI All Country World Ex-US Index ETF (CWI) is down slightly more than 1%. Since the CWI ETF first launched in 2007, today would be just the fifth time it fell over 1% on the same day the S&P 500 ETF (SPY) rallied more than 1%. The other days were 1/28/08, 11/9/16, 2/24/22, and 10/24/22. Even more notable is that there have only been two other days when the daily performance spread between the two ETFs (in favor of SPY) was wider – during the Financial Crisis two days after the 2008 election on 11/6/08 and the day after the Brexit vote on 6/24/16. It’s been a historic day.



Today’s performance gap begs the question of whether international stocks will ever outperform again. The chart below shows the relative strength of the US (SPY) versus the rest of the world (CWI) since the latter ETF’s launch in 2007. Outside of a few years after it first started trading when international stocks performed roughly in line with the US, it’s been a one-way move in favor of US stocks for over a decade now, and today’s move only added fuel to the US rocket ship. There will come a time when international stocks have their day in the sun, but international investors aren’t sure how long they can hold their breath.

 

10 Quick Election Takeaways


Well, election day is now behind us, and while there’s some dust to settle yet, we now know a lot this morning. First, President-elect Donald Trump will be the 47th president of the United States, joining Grover Cleveland as the only president to win non-consecutive terms. Trump also won the popular vote for the first time in his three elections. We deeply respect the office of the presidency and congratulate President-elect Trump on his victory and Vice President Kamala Harris on her hard-fought campaign.

Second, Republicans will control the Senate. Given they will have the tie-breaking vote from Vice President-elect JD Vance, they only needed to flip one seat. Republicans were a heavy favorite to flip a seat before the evening started, and the West Virginia win was called early. Then came a pick-up in Ohio. Republicans were able to defend what was likely their most vulnerable seat in Nebraska and added Montana late in the evening. There are still tight races in Michigan, Pennsylvania, Wisconsin, Arizona, and Nevada that may take days to sort out, but Democrats are defending seats in all of them, so it won’t change the basic outcome.

Third, the House is still close with many tight races and it may take a week or so to know the outcome. But it was a good night for Republicans, which justifies a reasonably strong bias toward Republicans taking the House as well. But it’s legitimately still up in the air.

As always, from the perspective of the guidance we try to provide we are not interested in politics but policy and only policy that we believe will have an impact on market behavior.

In my opinion, there are our 10 quick election takeaways, 6 on the policy side, and 4 related to markets:

Election Takeaways – Policy Impact

1. Republicans will go big on deficit-financed spending, but markets like deficits (as we pointed out even in our Midyear Outlook), at least in the near term. If they lose the House this will be tempered, but a Republican sweep will likely lead to a full extension of individual tax cuts from the Tax Cuts and Jobs Act (TCJA), reinstatement of the small set of business tax cuts that were scheduled to sunset, and even add a few new tax cuts. There is little risk at this point that we will go over a fiscal cliff.
   
2. The debt ceiling will be raised, without much noise or market volatility.
3. Tariffs will go up, but there’s a difference between making campaign promises and governing and we are unlikely to see some of the more extreme proposals floated during the campaign. Also, once tariffs are announced, and other countries counter with their own tariffs, companies will likely adapt. Keep in mind we had a lot of tariffs even over the last four years under the Biden administration.
   
4. The general regulatory policy will be strongly pro-business with a strong bias toward deregulation. This is likely to have the largest impact on the most highly regulated sectors of the economy, such as energy and finance, though be careful translating this to market outperformance (energy and financials lagged the S&P 500 between 2017 and 2020).
5. Defense spending will increase, something we thought likely no matter who was elected.
   
6. Without judging whether it is good policy in general, immigration policy will limit labor supply of both skilled and unskilled workers, acting as indirect ramp-up of the regulatory burden on businesses by limiting who they are able to recruit and hire along with any added regulatory burden in maintaining their employment.

Election Takeaways – Market Impact

1. The overnight reaction of markets provides a clear sense of what the market perceives to be “Trump trades.” There is reason for caution about this initial reaction (see below), but it still tells us something about the expected policy influence on the market environment. We have to emphasize that these are not recommendations but simply factual observations:
   • US equities are rallying strongly while international equities are seeing modest declines.
   • Small caps are up very sharply (!) this morning, climbing significantly more than their large cap peers at last check.
   • The financials sector is seeing strong support.
   • US Treasury yields are higher, likely reflecting both higher growth and inflation expectations.
   • The US Dollar is rising against most major currencies.
   • Cryptocurrencies have seen broad support, with Bitcoin hitting an all-time high overnight.
2. As we’ve been saying all along, there’s no real historical evidence that which party occupies the White House has a broad impact on stock performance. Nevertheless, decisive resolution of the fiscal cliff and the supply side impact of tax policy are likely to help extend the expansion and support the bull market.
3. A Republican president with a Republican House and Senate is one of the worst market combinations historically. But even if Republicans end up sweeping the election, we believe narrow majorities in the House and Senate would give Congress some features of split government, since narrow majorities give centrists more power.
4. As we saw in 2016, the policy impact of a new president on markets can give way to broad macroeconomic forces fairly quickly. Yes, energy did well in the first month after Trump was elected in 2016, but it collapsed over the rest of the year and was by far the worst-performing sector over his presidency.

The story of macroeconomic forces is re-enforced if you compare election-to-election returns for President-elect Trump and President Biden. These outcomes aren’t what you would expect from a policy perspective.



We believe Carson Investment Research recommendations were well positioned for either election outcome, but last night’s outcome may be particularly friendly in the near term. We are overweight equities and underweight bonds (limiting the impact of higher rates), overweight US stocks with an emphasis on US small and mid-cap stocks versus benchmarks, and underweight emerging market stocks. We also have dedicated financials sector exposure in more tactical models.

Obviously, the election news is very recent and it will take time to fully assess the outcome. Our goal, as always, is to try to provide thoughtful, actionable advice for any policy environment. We will continue to provide updates on our post-election thoughts as markets, the election outcome, and President-elect Trump provide more clarity.

 

Nine Interesting Things to Know About the Election


“It’s tough to make predictions, especially about the future.” Yogi Berra, Yankee great and Hall of Fame catcher

It is official, Donald J. Trump will become the 47th President of the United States. This of course is the second time he did it, joining Grover Cleveland as the only people to ever become President twice, but not in consecutive terms.

Barry Gilbert, VP Asset Allocation Strategist, wrote this excellent blog on 10 Quick Election Takeaways that I suggest you read (after you read my blog first of course ). In today’s blog I wanted to build on what Barry wrote, sharing what I found to be interesting these first few days after the election.

Don’t Mix Politics and Investing
We are aware that this decision likely is about as polarizing as could be for many of you. Half the country is thrilled, while the other half is angry and disappointed. I’ll keep this part fairly simple. As a steward of assets our job isn’t to get worked up over the election, but to do the best thing for our clients and the money we run for them.

And doing this shows that who is in the White House has virtually no link to how the stock market will do. Yes, technically returns are a tad better under Democratic Presidents than Republicans, but the flipside to this is stocks do much better when Republicans control both chambers of Congress compared to when both chambers are blue. Look at the past few Presidents for example. A lot of people didn’t like President Obama and stocks did great. Many didn’t like President Trump and missed out on big gains. Then many didn’t like President Biden and stocks have been on the past two years.

Here’s a neat chart that goes back to 1900 showing that stocks tend to go higher, regardless of who is in the White House.



What Happened?
Safe to say the majority of the pollsters out there were way off, yet again. We had a pollster saying Iowa (Iowa!) could go to Vice President Harris?! That one didn’t make any sense to me then and it sure doesn’t now.

Go read the Yogi quote up top one more time to see how hard it can be to predict the future, as virtually no one had Trump winning like he did. Many noted how the 2022 midterms came in much closer to expectations and maybe this time so would the presidential election, but this is yet another election involving President Trump that saw his eventual numbers come in better than expected, similar to 2016 and 2020.

President Trump is projected to win 312 electoral votes compared with Vice President Harris’s 226. This is more than the 304 he won in 2016 and more than the 306 President Biden won in 2020. It is the most for a Republican President since 1988, but it trails the 365 (2008) and 332 (2012) President Obama won in his two elections.

The big surprise though was Trump won the popular vote as well, the first Republican to do this since 2004. He is up to more than 72 million votes, which will go higher once Arizona and Nevada become official. Interestingly, Democratic votes dropped from a record 81 million four years ago to 67 million this go around, although complete California results should increase that a little.



Why Did It Happen?
There were seven swing states that were going to decide the election and President Trump won every single one of them. Arizona, Georgia, Michigan, Nevada, North Carolina, Pennsylvania, and Wisconsin all voted Republican.

Without being too obvious, President Trump received a lot more votes than expected. But looking at the exit polls it is clear that one group where he did much better than expected was married woman, which came in at 51% voting for President Trump. While Hispanic and Black men also voted at a much higher clip for President Trump than in the past.

Stocks Loved the News
Optimism over lower taxes, deregulation, animal spirits, and improved small business confidence all sparked a huge stock rally, with the Dow up more than 1,500 points for the fourth largest point gain ever, while the 3.6% gain was the best in exactly two years.



The S&P 500 soared 2.5% the day after the election, which was the best post-election day ever. Be aware though, it also jumped 2.2% when President Biden won in 2020. The last eight elections stocks moved at least 1% the day after the election, so post-election day volatility is normal.



Small caps were the big winner on the day though, as the Russell 2000 gained nearly 6%, for its best day since November 2022. This was interesting, as yields soared and the past few years have seen higher yields as a negative for small caps, but optimism over lower taxes sparked the rally. As longtime readers and followers of our team might know, we’ve been bullish on small and midcaps all year and this very well could be just the start to a much better period for these names.

There Was No Post-Election Uncertainty
Another reason stocks soared yesterday was there was no long and drawn out drama around who would win. Here’s something that took me many years to learn. Stocks can take good news, they can even take bad news, but they can’t take uncertainty.

Many of the same polling experts were telling us it might take many days (or even weeks) to get the results. Instead, it was clear President Trump was going to win and as a result stocks gained as another potential black cloud was lifted.

Yields Soared
The 10-year yield continued to move higher, just as it has done since the Fed cut rates in September. In the end, the 10-year yield added 0.14 points to close at 4.43%, the highest level since July. This sent bonds tumbling, as remember that higher yields hurt bond prices and vice versa.

Potential higher deficits, more spending, better economic growth, and tariffs (which are potentially inflationary) were all cited as reasons for the move higher. Perfect world, you don’t want yields to continue to move much higher, as it would hurt the housing market and potentially small companies as well.

The bottom line is yields have moved drastically higher since the Fed cut rates in September and we think there’s a good chance this move has gone too far and lower yields could be coming over the coming months.



So What Really Matters?
Of course, who is in the White House matters, but there are things that matter a lot more for investors. How the economy is doing, Fed policy, inflation, valuations, and overall market trends potentially matter much more.

Right now we are looking at an economy that is outperforming and showing no signs of slowing down. Productivity is at some of the best levels since the late ‘90s. We have a stable, but slowing, labor force. Earnings are at record levels. The services sector (which make up more than 60% of our economy) is very strong. And not to be ignored, the Fed is quite dovish. When you combine all of these factors, you can see why we’ve been so bullish the past two years, and why we remain bullish currently.

Lastly, aggregate income growth is running at a 6.4% annualized pace over the past three months. That’s well above the 4.1% pace we saw pre-pandemic. When people are employed and their income is growing well above inflation, you have a big driver for continued solid economic growth.



The Podcast Election
This was likely the first election where people consumed much of their information on the candidates from places other than traditional media. It is appeared that the majority of headlines about President Trump were negative while the majority for Vice President Harris leaned positive, yet more than 70 million people voted for President Trump. How in the world did this happen? The simple answer is people stopped listening to traditional media and instead got to know the candidates in long form podcasts. Millions listened to President Trump for three hours on Joe Rogan and may have decided they liked his demeanor and his take on what was needed to help our country. Vice President Harris had the opportunity to also join the world’s most popular podcast with Joe Rogan but decided against it. I personally think this was a huge missed opportunity. On election night one reason offered for why she did poorly was the country just didn’t get to know her yet. Four years as the VP you’d hope people knew her, but there’s some truth there and more unscripted, long form discussions could have really helped, in my opinion.

In four years we will still have traditional debates, but who’s to say Joe Rogan (or whoever the next big podcaster is) doesn’t have both candidates sit down for a multi-hour podcast with no scripts? I think it is closer to happening than many think and I’d be all for it.

Now What?
We continue to expect a year-end rally, as the truth is many have been underinvested (and too heavy into cash and bonds) and have missed much of this historic rally. Could there be a chase into the end of the year? Yes, we think there sure could be.

In fact, previous years that were up at least 17.5% heading into the final two months NEVER saw those final two months lower, higher 14 out of 14 times, with November up 12 times and December up 11 times. The bull might have a few more tricks up his sleeves.



Looking at the past 10 elections we found that stocks were higher a year later after nine of them, and up more than 15% on average. Rallies after elections have been quite common the past 40 years and we think this time will likely follow this same pattern.



Our Hope
Our country is divided and raw right now. Although hope isn’t a strategy, we hope those differences can be mended over the coming months. In the end, we really aren’t that different and we need to get back to that. Being passionate about politics is important, but so is enjoying your life. So many people are miserable all the time over politics and I’d like to think the only people who should be miserable all the time are Chicago Bears fans (that is just a cursed team). If your candidate won, stay humble and know people are hurting. If your candidate lost, know those that voted against you did so because they believed in a change and it wasn’t because they were racist or ignorant.

 

The Economic Outlook Looks Pretty Good – Part 1


Amidst all the election news, the Federal Reserve’s (Fed) November meeting almost went under the radar. The good news is that the Fed didn’t give us any surprises. As widely expected, they cut the federal funds rate by another 0.25%-points, taking it down to the 4.5-4.75% range. Fed Chair Powell pointed out that this is simply ongoing recalibration of interest rate policy – policy is still restrictive even as inflation continues to move to their target of 2%. The labor market has cooled off quite a bit, but they don’t want to see any more softening. They believe the employment situation is solid and want to keep it that way. All of which is very positive.

At the same time, they’re in no hurry to “normalize” policy. They’re going to take a gradual approach as more data comes in, i.e. no big moves like the 0.50%-point cut in September. Economic growth is solid, as recent data has highlighted. Quoting Powell:

If you look at the U.S. economy, its performance has been very good. And that’s what we hear from businesspeople, and expectation that that will continue. If anything, people feel next year—I’ve heard this from several people—that next year could even be stronger than this year.

This is a telling outlook and worth unpacking as we look toward 2025. Real GDP growth has clocked in at an annualized pace of 2.9% over the last two years (through Q3). That’s above the 2017-2019 pace of 2.8%. There’re questions about whether the Fed should even be easing under this scenario, but as Skanda Amarnath pointed out when Ryan and I spoke to him on our recent Facts vs Feelings podcast episode, the Fed does not have a GDP target. They have an inflation target and maximum employment mandate.

Note that Powell was quick to add that they haven’t accounted for any impact of the new administration’s proposed policies. We’re not quite sure what policies will actually be passed, and to what extent. It’s going to take some time for things to come into focus, and even more time for it all to play out. Given that uncertainty, I thought it would be useful to do a SWOT analysis for the US economy in 2025, i.e. considering its strength, weaknesses, opportunities, and threats. In this piece, I’ll cover strengths and weaknesses. I’ll save the discussion of potential opportunities and threats in part 2 of this blog.



Strengths
To start with, it’s useful to recall that consumption accounts for just under 70% of the economy. Consumption has been driven by income growth this cycle, and right now aggregate income growth (across all workers in the economy) is running at a 5.3% year-over-year pace. That’s above the strong pre-pandemic pace of 4.5%. There’s no reason to expect this to pull back significantly, but we may see a shift in dynamics. Aggregate income growth is the sum of employment growth, wage growth, and change in hours worked. Going forward, aggregate income growth is more likely to be powered by strong wage growth, even as employment growth slows to a 150,000-175,000 average monthly pace.



Household balance sheets are also in really good shape. Household net worth is 785% of disposable income, close to all-time records. Mostly thanks to rising home prices and stock prices. Even if income growth pulls back further, strong balance sheets give households room to maintain consumption (by reducing the amount they save each month).



Productivity growth is also running strong – over the last six quarters, productivity growth has clocked in at a 2.6% annualized pace. That’s well above the 1.6% annual pace we saw between 2005 and 2019. This productivity boost is something we talked about a year ago, including in our 2024 outlook. As we discussed back then, a key factor here is a strong labor market. Workers who were hired back in 2021 and 2022 have gotten a lot more productive as they got trained and stay in their jobs (with relatively higher pay). Entrepreneurship is another likely factor boosting productivity, with new business formations running well ahead of what we saw in the last decade. New business creation also provides employees opportunities to switch jobs for higher pay. The good news is that strong productivity gains allow wage growth to remain strong, without creating inflationary pressures – this dynamic has been playing out over the past year and half and we expect it to continue into 2025.



The main risk to this productivity boom is a recession, which can really harm the labor market. However, we don’t think that’s on the cards for 2025. Our own proprietary leading economic indicator has consistently said that the US economy is not close to a recession for over two years now (including in 2022 and 2023, when everyone was calling for one). It continues to tell us that the US economy is growing on trend, or slightly above it. Moreover, the Fed has pointed out that they don’t want the employment situation to soften any further. That’s crucial support.



Weaknesses
Interest rates have risen sharply since the Fed meeting in September, despite rate cuts. The 10-year treasury yield jumped from 3.64% on September 17th (the day prior to the Fed’s September meeting) to 4.33% as of November 7th. We did see a big jump on the day after the election, but yields pulled back the following day. These are big moves, but for the most part it reflects lower recession fears thanks to strong economic data in recent weeks.



Normally I’d put higher interest rates as a “Threat” but it’s already hurting and causing weakness in certain sectors of the economy. For one thing, higher interest rates can adversely impact investment spending that is dependent on borrowing, and we’re already seeing signs of that. Business equipment spending has picked up over the last two quarters, coinciding with a big drop in interest rates. However, with rates reverting higher now, there’s some risk that equipment investment flatlines (as it did in 2023). Investment in structures has boomed over the last couple of years, but this has been driven by the CHIPS Act and IRA (Inflation Reduction Act) crowding in investments in manufacturing structures, specifically high-tech manufacturing. However, investment in structures outside of manufacturing has been weak. This is unlikely to rebound unless interest rates ease.

High interest rates also hinder consumers from tapping into credit, such as auto loans or even home equity that’s built up over the last few years. Overall consumer credit growth is running at just over 2% year-over-year, well below the 4.5-5% pace we saw back in 2019.

The weakest area of the economy is housing, which is a critical cyclical sector of the economy. And no surprise, it’s highly dependent on interest rates. 30-year mortgage rates closely track 10-year treasury yields, and they’re back over 7% now. That’s not conducive for housing activity. Both single-family and multi-family segments are getting hit. Completions are running 25% above starts, which indicates that builders are not confident about the outlook and are more focused on just completing homes already in the pipeline. Instead of starting new ones.



Housing by itself may not be pull the economy into a recession, but it’s a drag. Residential investment has already dragged from GDP growth for two quarters in a row. This is likely to continue into the beginning of 2025, unless mortgage rates pull back. Construction employment has been running solid until now, but if housing remains weak, we could see that start to pull back as well. Historically, construction employment has foreshadowed further weakness across the labor market. This is something we’re going to be watching very carefully over the next few months.

Overall, I think it’s fair to say the strengths currently outweigh the weaknesses, especially because the latter are isolated in smaller areas of the economy. Still, it’s something to be aware of as we move into next year. In my next piece, I’ll discuss potential opportunities and threats for the 2025 macroeconomic outlook.

 

The Dollar and Domestics
Mon, Nov 11, 2024

As noted in today's Morning Lineup, the US dollar among other assets has continued to rise post election. The Bloomberg Trade-Weighted Dollar Index is now up 1.66% versus the close on election day. With those gains, the dollar is now trading at some of the highest levels of the past year.



In last week's Bespoke Report, we discussed the market's winners and the losers from the election, and obviously as shown above, the dollar has fallen into the winners category. As we have discussed in the past, generally in strong dollar environments, the stocks most poised to benefit are those that generate the highest share of revenues domestically. Conversely, in weak dollar environments, it's the stocks that generate the majority of their revenues outside the US that tend to perform relatively well as their goods and services become cheaper for international customers.

That dynamic has exactly played out. Below, we show the average performance since Election Day by deciles of Russell 1,000 members based on their international revenue exposure. Decile one is comprised of all stocks with 100% domestic revenues (domestics), and each group moving up the chain to decile 10 has an increasingly higher share of international revenues. The top performers, with an over 5% average gain, are the domestics whereas the most internationally exposed stocks are up a meager 1%.

 

Small Business: Poor Sales and Politics
Tue, Nov 12, 2024

Early this morning, the NFIB updated their latest gauge on small business sentiment. The headline number came in at 93.7 this month compared to a lower number of 91.5 last month. That was a larger than expected uptick as it was forecasted to only rise to 92. At current levels, the index remains in the bottom quartile of its historical range, but it's tied with this past July for the strongest reading since February 2022.



In the table below, we show each category of the report including non-inputs to the Optimism Index. We show this month's reading, last month's reading, and the month over month change in addition to how each of those rank as a percentile of all periods. As shown, improvements were broad in October with no inputs to the Optimism Index falling and many of those MoM gains ranking in the upper quintile of monthly changes or better. Breadth was a bit weaker for indices that are not inputs to the Optimism Index. For example, higher prices was lower, although that can be considered a good thing.



Even though the release showed most categories moving higher, overall it was somewhat of a mixed bag. As we discussed in today's Morning Lineup, labor readings are weak but showing some signs of stabilization. When it comes to many demand gauges, as shown below, outlook for general business conditions remains negative as has been the case for a record span of almost four years running (47 straight months). Granted, October saw the best reading since the 2020 election (this survey's political sensitives discussed in more detail below). Meanwhile, the share of firms reporting now as a good time to expand their business is still very low historically, albeit picking up to 6%. Elsewhere in outlook/expectations indices, sales expectations have rebounded significantly but remain negative.

Those weak but improving expectation indices contrast with much weaker readings for actual sales and earnings. Actual sales changes continue to plummet reaching a new low of -20 in October. The only periods in which this was lower was the depths of COVID and during the Financial Crisis years. Actual earnings changes moved higher for a second month in a row, but current levels are likewise some of the worst on record. As for inflation, the higher prices index is no longer falling at the same pace as yesteryear having stabilized around still historically elevated levels.



The NFIB has some auxiliary data within the report that surveys businesses reporting lower earnings on the reason for such a response. Weak actual sales are again reflected here. The share of businesses reporting sales volumes as the cause for lower earnings jumped to 16%. That matches last November for the highest reading since March 2021 and unseats increased costs for the number one reason. While increased costs are no longer the most common response, the reading is still well above pre-pandemic norms and has been mostly flat over the past few years.



More broadly in response to the question posed to all businesses of what is their most important problem, 9% of firms reported poor sales. That reading has been trending higher and is now the most elevated since March 2021. While poor sales is rising, other issues like inflation (23%), quality of labor (20%) and taxes (16%) all rank higher at the moment.



Circling back on expansion outlooks, again a historically low share of firms see now as a good time to grow. As shown below, economic conditions are far and away the most common reason given for this outlook. However, the next most common reason is political climate. As we often note including in today's Morning Lineup, one downside to the NFIB data is consistent sensitivity to politics.



In the chart below, we show the combined share of businesses reporting politics as their reason for a negative or uncertain expansion outlook. As shown, this reading has tended to rise sharply ahead of an election. After Trump won in 2016, this measure dropped sharply while the opposite played out in 2020 when Biden was elected. This go around, it has again risen into the election, but since Trump has won, it will likely head lower (maybe even dramatically so) in the next report. It also wouldn't be surprising to see this sort of positive turnaround in other categories of the report.

 

The Other Thing That Happened Last Week


“No.” -Federal Reserve (Fed) Chairman Jerome Powell when asked if he would resign if President-elect Trump asked him to.

Yes, the election and huge stock market rally took all the headlines last week, but there was another very big event. The Fed cut interest rates again, by 0.25% (after the 0.50% cut in September) to a range of 4.5%–4.75%.

This was universally expected and overall the statement was virtually the same as last time, so there wasn’t much of a curveball from this decision. Still the door is wide open for another cut in December and we think multiple cuts in 2025.

Powell and Trump Probably Don’t Like Each Other
The bigger question though was just how much Powell and Trump don’t like each other. It was a contentious relationship the last time Trump was in the White House and given Powell’s rather curt answer last week (in the quote above) it is safe to say they might not be sending holiday cards this year either. But the press conference didn’t stop there, as a reporter asked if the President could demote or fire him. “Not permitted under the law,” Powell fired back. “Not what?” the reporter responded. “Not permitted under the law,” said Powell, a lawyer himself, this time pausing for emphasis after each word.

Sonu Varghese, VP Global Macro Strategist, wrote some about the Fed last week in The Economic Outlook Looks Pretty Good – Part 1. This week I’ll take a look at a few other things with the Fed that you might find interesting.

Let’s Talk About Fed Cuts
First off, they cut on a Thursday due to the election. You have to go back to October 1998 and then July 1995 the time before for the last time they cut on a Thursday, as most meetings conclude on a Wednesday. 1998’s cut was an intra-meeting cut due to Long-Term Capital Management (LTCM) going under. 1995 was a normal meeting, but that was back when the Fed would cut and no one would even know about it until the next day.

Last week the Fed cut interest rates with stocks near all-time highs. Here’s a chart we’ve shared many times before, but it is just as relevant now as it was then. We found 20 other times (back to 1980) the Fed cut with the S&P 500 within two percent of an all-time high and stocks were higher a year later 20 times and up an average of nearly 14%. As much as the Fed was a headwind in 2022 when they aggressively hiked to slow inflation, it has been a tailwind since July 2023 when they stopped hiking. Now, as this easing cycle continues, the tailwinds remain strong.



Why We Aren’t Worried About Higher Inflation
We’ve been on record for well over a year now that our country would see very strong productivity and that is exactly what has played out. Below is what Sonu had to say recently about productivity.

Productivity growth is also running strong – over the last six quarters, productivity growth has clocked in at a 2.6% annualized pace. That’s well above the 1.6% annual pace we saw between 2005 and 2019. This productivity boost is something we talked about a year ago, including in our 2024 outlook. As we discussed back then, a key factor here is a strong labor market. Workers who were hired back in 2021 and 2022 have gotten a lot more productive as they got trained and stay in their jobs (with relatively higher pay). Entrepreneurship is another likely factor boosting productivity, with new business formations running well ahead of what we saw in the last decade. New business creation also provides employees opportunities to switch jobs for higher pay. The good news is that strong productivity gains allow wage growth to remain strong, without creating inflationary pressures — this dynamic has been playing out over the past year and half and we expect it to continue into 2025.

The reality is some of the best years for the economy and stock market have been during periods of strong productivity, which makes sense since productivity growth is a key input to GDP. Last year for instance saw nominal Gross Domestic Product (GDP) up nearly 6% and we are now looking at back-to-back 20% years for the S&P 500, something we don’t think is a coincidence with productivity strong. The last time we saw an extended period of strong productivity? The mid to late1990s, one of the best periods ever for investors.

We hear all the time that should the Fed cut here, it could lead to higher inflation. Yes, that’s a worry, but again go look back at history. When you have higher productivity it allows for higher wages, but also puts a cap on inflation. It sounds like a perfect scenario, but we indeed saw a similar situation in the mid-1990s and the Fed cut, wages stayed strong, and inflation wasn’t an issue. As long as productivity remains strong (like we think it should) the path is there for the Fed to continue to cut interest rates and not worry about inflation soaring back.

 

November Monthly Option Expiration Day: Russell 2000 Best

Russell 2000 (the small-cap index) has been up 16 of the last 21 years on November’s monthly option expiration Friday with an average gain of 0.48% in all years. Since 2012 Russell 2000 has been even more consistent, up 13 of 14. DJIA has been second best on November’s monthly option expiration Friday with an average gain of 0.42% and up 15 of the last 21 years. It is not a mistake that DJIA’s November monthly op-ex day has the same point change and percent change in 2014 and 2015. It was triple checked and it’s correct.

Full-week performance has been historically weaker. Average performance for the week is negative across the board with losses ranging from –0.32% by Russell 2000 to –0.18% from DJIA. Week after performance has been better, with NASDAQ and Russell 2000 strongest.

 

The Economic Outlook Looks Pretty Good, and Opportunities Abound – Part 2


“We have two kinds of forecasters, the ones who don’t know and the ones who don’t know they don’t know” – John Kenneth Galbraith

In Part 1 of this blog, I discussed a framework for thinking about the economic outlook in 2025. There’s clearly a lot of policy uncertainty ahead. As the incoming Trump administration and Congress fully work out the details. It’s going to take time for it all to play out, and it would be foolhardy to predict what’s coming down the pike, let alone predict the precise impact. That said, even before we start thinking of what may be coming ahead, it’s useful to take stock of where we are right now. I used a SWOT analysis (strengths, weaknesses, opportunities, and threats) to assess the economy as it stands today (strengths and weaknesses) and external factors that could impact it going forward (opportunities and threats). This allows us to think about the odds of each of these factors, and position portfolios accordingly.

To recap Part 1: The economy is on solid footing right now — thanks to strong income growth, solid household balance sheets, and productivity growth. That does not mean there are no potential risks. Elevated interest rates, even in the face of Federal Reserve cuts, are a big risk to the economy. Higher rates are a function of stronger growth expectations, but it’s hurting sectors like housing, manufacturing, and investment spending. Loan demand is also weak due to elevated rates.

In terms of external forces, we have potential monetary and fiscal policy opportunities that could provide a steady tailwind for markets and the economy. At the same time, threats that could upend the outlook include tariffs and resurgent inflation. Let’s walk through all of these.



Opportunities – Don’t Fight the Fed, or Congress
There’re questions about whether the Fed should even be easing rates when GDP growth is running at 2.5–3.0%. However, as I wrote in the previous blog, the Fed does not have a GDP target. They have an inflation target and a maximum employment mandate. The inflation outlook looks good going into 2025. Headline inflation, as measured by the Fed’s preferred personal consumption expenditure (PCE) metric, is running at a 2.1% year over year (the lowest since February 2021), and is up just 1.8% annualized over the past three months.



The Fed does focus on core inflation (excluding food and energy), but it’s good to recall they actually target headline inflation. To that end, oil prices remaining around $70/barrel (WTI) is a big positive — it’s hard to worry about inflation when energy prices are muted. It matters even for core inflation, since energy feeds into items like restaurant prices and airfares. On the core inflation front, most of the excess inflation (above the Fed’s 2% target) is coming from lagging shelter data. The good news is there’s likely more shelter disinflation coming through in 2025. The relatively benign inflation picture will allow the Fed to focus on the employment side of their mandate. Even after their November meeting, Powell noted that the labor market is solid, but they don’t want it to cool further. In other words, they’re putting a cap on the unemployment rate (or a floor under the economy), to the degree that it’s under their control. This implies policy is likely biased towards the dovish side in 2025, and that’s a big positive. Markets are currently pricing in another 0.75%-points of cuts through 2025.

Fiscal policy could provide another tailwind in 2025. The 2017 Tax Cut and Jobs Act (TCJA) had several provisions that “sunset” at the end of 2025, mostly on the individual side but also a few on the business side. But the odds of the economy going over a fiscal cliff from automatic tax increases on January 1, 2026, has been reduced close to zero amid Republicans capturing all three branches of government. There’s a good chance that most, if not all, of the expiring provisions will be renewed, and then some. The corporate tax rate, which was permanently reduced from 35% to 21% in 2017, may be further reduced to 15%, which would boost S&P 500 earnings per share (EPS) by about 4%.

Now, there is caution warranted given the slim 4- to 5-seat majority Republicans will have in the House, the narrowest Republican majority ever. Even in 2017, writing a tax bill took the better part of a year despite Republicans commanding a 20-25 seat majority in the House. The narrow house majority this time around, combined with a 53-47 majority in the Senate, means that serious spending cuts are not going to be on the table (as in 2017). Keep in mind that if defense, Medicare, and Social Security are off the table, it’s going to be hard to find serious savings. The path of least resistance will likely be more deficit spending. The only question is, How much? Republicans in Congress will actually have to settle on a deficit number before proceeding to write the tax bills. Note that permanent renewal of all expiring provisions of TCJA could cost up to $4 trillion. There are also some big differences between now and 2017: deficits are already high and the government’s interest costs are much higher too (thanks to higher rates).

From a market perspective, deficits are not a bad thing as it can potentially boost corporate profits, assuming it doesn’t crowd out consumer spending or private sector investment. And profits are what matter for stocks. At the national aggregate level, corporate profits are the result of net saving versus consumption (the opposite of savings) by the four major sectors of the economy: households, businesses, government, and the rest of the world (via trade). Rising household savings and rising government savings (budget surpluses) drag from profits, and vice versa. More business investment and dividends paid out add to profits. A rising current account surplus means the rest of the world is buying more US-made goods and services than Americans buy from foreigners, and that increases business revenues and profits, whereas an expanding current account deficit (which is typically what the US has) means Americans buy relatively more from abroad, and that’s a drag on profits. Note that this aggregate picture doesn’t tell us which companies are growing profits, or how it’s distributed across industries.

Profit growth surged over the 2016-2019 period on the back of higher fiscal deficits (from TCJA). Even over the last six quarters, households have started saving more (relatively) but corporate profits rose because fiscal deficits started growing again.



Another potential positive is deregulation, though it’s always hard to pinpoint precisely how this impacts markets. An easier stance from agencies like the SEC, FTC, CFTC, and even Department of Justice, could lead to a rise in “animal spirits,” likely manifesting in things like increased M&A activity and IPOs (which have fallen a lot over the last two years, partly due to higher rates depressing valuations). Deregulation could see more supply-side activity, including in areas like energy production. That will also be positive for the inflation outlook.

Tariffs and Potential Inflation Resurgence Pose a Threat
The threat of tariffs, and a retaliatory trade war, is clearly on everyone’s mind. All else equal, tariffs will raise the price of imported goods (though it’s a one-time price level increase). But things don’t work as neatly as that. For one thing, it’s hard to predict what tariffs will actually be implemented, let alone their impact. The Biden administration kept in place most of Trump’s tariffs from his first go-around, and even implemented a few more. President-elect Trump has discussed implementing 60% tariffs on Chinese goods and up to 20% tariffs on other imports. It’s highly unlikely we see anything close to this. For one thing, the market reaction would be extremely negative, perhaps prompting a tempering of any extreme proposals. More targeted tariffs are the likely reality.

Also, bilateral tariffs may simply shift trade to other countries. The share of U.S. imports coming from China is now just 14%, versus 22% in 2018. Yet, the share of imports from countries like Mexico, Canada, and Vietnam has risen. In fact, the overall non-petroleum goods deficit rose by 14% between 2018 and 2019, thanks to surging goods imports. Another factor here is the dollar. The dollar appreciated soon after Trump’s 2016 election, but then pulled back in 2017 as the focus shifted from tariffs to tax cuts. But it resumed its increase in 2018-2019, making imports cheaper even as the trade war was raging. The dollar has appreciated by about 5% since September 2024, thanks to expectations of stronger economic growth (and higher rates) in the US relative to other countries. But part of this dollar surge occurred post-election. A stronger dollar could offset some of the price increases associated with tariffs.



All in all, we’re skeptical about an inflation surge in 2025 on the back of tariffs. As I noted above, there are disinflationary trends in the pipeline that will likely keep a lid on inflation in 2025 (including shelter). If anything, a potentially higher probability inflation threat remains an unexpected energy price shock (like in 2022) arising from major disruptions in the Middle East. Still, the absolute odds of this are relatively low. Strong oil production increases in the US and Canada will help mitigate this (keeping supply strong), along with continued weakness in China (keeping a lid on demand).

Overall, economic strengths clearly outweigh areas of weakness, and the opportunities likely have a higher probability of coming to fruition than the threats. The balance favors continued strength for equities, which is why we’re maintaining our overweight to stocks, especially US stocks. Equities do have strong momentum going into 2025, but it may not be smooth sailing while Congress and the new administration fully work out policy changes. Combine this with potential risks on the horizon, and we see good reason to maintain a robust array of diversifiers in our portfolios, including bonds, gold, and managed futures.

 

Why We Think Inflation Has Normalized and the Fed Can Cut Rates


The October Consumer Price Index (CPI) data held no surprises for markets, either to the downside or the upside. Since inflation had already normalized, that means the latest data confirms the pre-existing trend. Headline CPI rose 0.2% in October and is up 2.6% year over year. Core CPI (excluding food and energy), which is typically used as a gauge for underlying inflationary pressure by the Federal Reserve (Fed), rose 0.3% last month and is up 3.3% since last year.

It probably sounds bonkers to say inflation has normalized when these numbers are clearly above the Fed’s target of 2%. The thing is, almost all of the “excess” inflation is coming from shelter inflation. If you take out shelter inflation, which makes up about 35% of the CPI basket, headline CPI is up just 1.3% year over year. Even over the last three months, CPI ex shelter is running at an annualized pace of 1.3% versus 2.5% for overall CPI.



You may be thinking, “Wait! Housing is in fact a big portion of a household’s budget. You can’t just throw it out.” That is true, except the heat in shelter inflation actually comes from rent increases we saw in 2021, when rents surged. As Ryan and I have discussed over the last two years, official shelter data has significant lags to what we see in the private market real-time data. Private data (via Apartment List) indicates that rental inflation has slowed significantly, and new rental lease prices have been falling for over a year now. Our friends at WisdomTree have done one better, re-constructing CPI, but with more real-time housing price data. This is from their data:

• Headline CPI with real-time shelter is up 1.3% year over year versus 2.6% for CPI with official shelter data.
• Core CPI with real-time shelter is up 1.8% year over year versus 3.3% for core CPI with official shelter data.

Jeremy Schwartz, the Global Chief Investment Officer at WisdomTree, put it succinctly: “The Fed should continue recalibrating to neutral.” I couldn’t agree more.

The good news is that the Powell-led Fed seems inclined to do so as well. There’s been a question about whether the Fed should be cutting when economic growth and the stock market are running strong. But the Fed does not have a GDP mandate. Nor do they have a stock market mandate. As Ryan pointed out in his last blog, the Fed has historically cut with stocks near all-time highs (and stocks were higher 20 out of 20 such times a year later, with an average return of 14%). The Fed has a stable inflation mandate, and a maximum employment mandate. It’s pretty clear the former goal has been met. But there’s some risk to the latter, which the Fed seems thankfully aware of. As Powell said after the most recent Fed meeting in November:

“The labor market has cooled a great deal from its overheated state of two years ago and is now essentially in balance. It is continuing to cool, albeit at a modest rate, and we don’t need further cooling, we don’t think, to achieve our inflation mandate.”

In short, the Fed doesn’t want the labor market to get weaker. Their most recent unemployment rate projections (from the September meeting) confirm this – they projected the 2024 and 2025 unemployment rate to remain steady at 4.4% (it’s currently at 4.1%). As I wrote back then, the Fed is essentially putting a cap on the unemployment rate, or rather, a floor under the economy. Crucially, the fact that inflation has normalized is what allows them to do this. There’s good reason to think this dynamic will play out in 2025 as well, with shelter disinflation in the pipeline and continuing to put downward pressure on overall inflation.

To Powell’s point, the labor market does not need to cool further for them to achieve their inflation mandate. And it had cooled quite a bit, as Neil Dutta at Renaissance Macro Research points out. A good place to see this is in wage growth. The latest Employment Cost Index data for private sector service industry workers showed wages growing 3.6% since last year but slowing to a 2.7% annualized pace in Q3. This metric is historically correlated with services inflation, and it looks like there’s further moderation ahead.



This is further confirmation that the inflation problem is over, and the Fed can normalize interest rates (and should do so). Elevated rates are clearly having a negative impact on rate-sensitive segments of the economy, especially housing. The Fed’s latest survey of bank loan officers also showed much weaker demand for loans in Q3, despite a pullback in the net number of banks tightening standards. The net percent of banks reporting stronger demand for commercial and industrial loans pulled back from 0% to -21% for large and middle-market firms, and from 0% to -19% for small firms. This is not what you want to see if investment spending is to pick up.



Long story short, policy is too tight. But the Fed has a lot of room to cut because inflation has normalized, and the inflation outlook looks good as well.

What’s interesting is that markets are now more hawkish than the median Fed member. Markets currently expect the policy rate to land around 3.9% at the end of 2025, implying just 2-3 more rate cuts. Fed members estimated the 2025 rate at 3.4% in their September projections. Looking further out into 2029, markets expect the policy rate to remain close to 4%. That’s well above the Fed’s long-run estimate of just 2.9%. At some point these divergent views will have to reconcile, and it may take investors becoming a tad less optimistic about future growth and perhaps Fed members becoming a tad more optimistic.