As expected, the Federal Reserve lowered interest rates by 25 basis points at its December meeting. It was the third consecutive meeting with a rate cut, and it brought the fed funds rate down to a range of 3.5% to 3.75%. The committee indicated that it anticipates one more quarter-point cut in 2026. The Fed also increased its median forecast for real 2026 GDP to 2.3%, up from 1.8% in September and 1.6% in June — and we believe this forecast will still prove to be too low. Unemployment expectations were unchanged and the core personal consumption expenditure inflation forecast fell slightly to 2.5%, a pace we believe could be on the high side for 2026.

At his press conference, Chairman Powell noted that “goods inflation remains elevated and the impact of tariffs remains a risk for future inflation.” We fail to see this in the numbers. Headline and core CPI have been hovering at the 3% level after rising from a 2025 low of 2.3% in April. However, goods inflation remains much lower at 2%. Even though Google states that “auto tariffs are taxes imposed on vehicles and components … raise vehicle costs for consumers, increase insurance/repair expenses, and disrupt complex global supply chains, leading to higher prices on new cars, even impacting U.S.-made ones due to imported parts.” The data shows that the price of a new auto rose a mere 0.8% YOY in September, up from minus 0.3% YOY in January. On the other hand, the broad service inflation index remained elevated at 3.7% YOY in September, down a bit from 3.9% in January. It is true that the CPI index for motor vehicle maintenance and repair was high at 7.7% YOY in September (down from 8.5% in August). But it is also true that it peaked at 14% YOY (nearly double the current level) in January of 2023, well before any tariffs were in place. See page 3. In short, recent maintenance pricing may be more “opportunistic” due to recent tariff mania, than due to imposed tariffs. We continue to point out that tariffs are not taxes. Taxes cannot be avoided. Tariffs can be avoided since consumers usually have the choice of alternative products. Moreover, tariffs are often absorbed or mitigated by foreign producers, foreign governments, intermediaries, and domestic sellers, well before they reach the consumer. This is not true of taxes. November CPI data will be released later this week.

Delayed releases are being reported this week and the most important of these is employment. November employment increased by 64,000, which was above expectations, however, it was offset by a loss of 105,000 workers in October. Federal jobs declined by 6,000 in November and a massive 162,000 in October. The October loss included federal employees who accepted a deferred resignation offer which became effective in October. August data was also revised down by 22,000 and September was revised down by 11,000. After all these revisions the 6-month pace of job growth fell from 53,000 in September to 16,670 in November. The year-over-year rate of change was 0.6% in November, down from 0.8% in October and quickly approaching a dangerous negative level. This decline in job growth is a big concern of ours since year-over-year declines in employment correlate highly with recessions. Moreover, the BLS has already announced its annual benchmark revision will be published with January’s employment report. It is estimated to lower total employment by 911,000.

In contrast to the establishment survey, the household survey showed employment increased by 323,000 in November. However, the household survey was not done for October, and this could be an estimate for November. This series can also be volatile, so we are not sure how to incorporate it into our analysis.

The household survey also includes the unemployment rate which rose to 4.6% from 4.4% in September. See page 4. However, while the regular unemployment rate rose from 4.4% to 4.6% the U6 unemployment rate which includes marginally attached workers plus total employed part-time for economic reasons rose from 8.0% to 8.6%. In line with this, discouraged workers rose to 681,000, the highest level since July 2020. In short, the job market is clearly weakening. See page 5.

People working part time for economic reasons rose by 909,000 to 5.49 million in November. October data was not available, so this change was between September and November; however, the 5.49 million was the highest level since the 5.8 million reported in January 2021 in the post-pandemic era. The brightest part of November’s report was that total average weekly earnings rose 3.5% YOY and earnings for production and nonsupervisory employees rose 4.2% YOY. Both were above the rate of inflation. Average weekly hours for private industry workers increased from 34.2 to 34.3 hours. See page 6.  

The employment cost index (ECI) was 3.6% in the third quarter, unchanged from the first and second quarters, but down from 3.9% seen a year earlier. It is also down substantially from the 5.1% peak seen in the second quarter of 2022. The ECI is likely to continue to fall as the implementation of AI expands and raises productivity. This will be good news for employers, corporate earnings and for inflation. Labor costs are the largest expense for most businesses and the gap between labor costs and inflation (the ability to pass on these costs) is narrowing, which is a favorable trend and a positive for future earnings. See page 7.

However, in terms of the ECI, there is a distinct difference between private and government workers compensation and costs. According to the BLS, as of June 2025, total compensation for civilian workers averaged $48.05 per hour worked. Total compensation costs for private industry workers averaged $45.65 per hour worked and state and local government workers averaged $63.94 per hour worked or were 40% higher. Within employer costs, benefit costs averaged $15.03 per hour worked for all civilian workers in June 2025, $13.58 per hour worked for private industry workers and $24.63 per hour worked for state and local government workers. This means benefits costs were 80% higher for government workers than private industry workers. This differential does not get much publicity, but perhaps it should. There were also big differences between paid leave, insurance costs, and retirement benefits, with costs for government workers much higher than for private workers. See page 8.

It is also worth noting that the federal deficit for November was $173.3 billion, down roughly 50% from a year earlier. The fiscal deficit year-to-date is $457.6 billion, down 25% from a year earlier. The reduction materialized from a combination of higher tax receipts and lower outlays. This is an important statistic for the debt markets, since this administration inherited deficits that were running at 7.2% of GDP in January. The current 12-month deficit through November was 5.3% of second quarter nominal GDP. This is an impressive accomplishment, and we believe GDP will be much higher in the third and fourth quarters – which means the ratio to GDP is even lower. The trade deficit also improved in September to negative $52.8 billion after peaking at negative $136 billion in March. This is decline in the trade deficit will translate into a higher GDP in the third quarter. All in all, while eyes are focused on the weak employment report and the upcoming CPI report later this week, there was good news in the cost of labor and the twin deficits. We remain a buyer of dips.

Gail Dudack

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Expectations that this week’s FOMC meeting will result in a 25-basis point cut in the fed funds rate — to a range of 3.50-3.75% — jumped from 30% to 87% in the past three weeks. This reversal was triggered in large part by New York Fed President John Williams who stated that inflation expectations were well-anchored, wage growth has moderated, and inflation should get back to the Fed’s 2% goal in 2027. He also noted that the labor market has cooled down and the downside risks to jobs have increased.

Still, investors remain nervous ahead of this week’s FOMC announcement as seen by the mixed price performances in equities in the last two sessions. We believe the Fed needs to cut rates at this meeting since the employment environment is holding steady, but just barely. If the Fed fails to lower rates this week, we expect the stock market will respond badly.

New weekly initial unemployment claims fell to 191,000 at the end of November, the lowest number since the late 1960’s. And while this low number might suggest it is a strong job market, it was a holiday week which means claims may not have been filed, were postponed, or not tallied in a timely manner. The JOLTS report for October did not provide much new information. Job openings increased marginally and the declining trend in the hires rate and the quits rate continues. See page 3.

The ISM nonmanufacturing index showed little change. The headline index rose 0.2 to 52.6 in November, and seven of 10 components of the survey increased this month. Four components remain below the 50 breakeven level. However, our focus was on the employment index, which rose 0.7 to 48.9. This was a very modest increase, but it was sufficient to keep the combined manufacturing and nonmanufacturing ISM employment index — now at 92.9 — from falling below the standard deviation range of 92.1 to 112.7. Again, the job market is holding steady but is far from robust. See page 4.

The NFIB Small Business Optimism Index was 99.0 in November, up 0.8 points and above its 52-year average of 98. Of the 10 components, six increased, three decreased, and one was unchanged. An increase in those expecting real sales to be higher contributed most to the improvement. However, the Uncertainty Index also rose 3 points to 91. An increase in owners reporting uncertainty about plans for capital expenditures in the next three to six months was the primary driver of the rise in the Uncertainty Index. However, in our view, the best news of the report was the jump in hiring plans from 15 to 19, the highest level since December 2024. Although this index remains well below the August 2021 level of 32, it is up nicely from the low of 12 recorded in May of this year. See page 5.

Nevertheless, the main reason the Fed should be lowering rates this month is that current jobs data will be revised downward by a significant amount in February. The BLS estimates that the adjustment to March 2025 payrolls will be a reduction of 911,000 jobs!! In short, whatever the current data suggests about job growth is probably overstated. For this reason, the Fed should cut interest rates as an insurance policy against a recession.

Newly released data for the PCE deflator showed a small rise from 2.7% YOY to 2.8% YOY in September. (Technically the index was up 2.74% YOY in August and up 2.79% YOY in September.) The core PCE deflator fell from 2.9% to 2.8%. Although this data release is unlikely to influence the Federal Reserve’s rate decision, it does align with Fed President John Williams’ comments that inflation appears well anchored and continues to hover slightly under 3%. Note that it is also well below the long-term average of 3.5% YOY. Assuming inflation might remain stable in October, November, and December, the real fed funds rate would show a decline from 170 basis points in January to 110 basis points presently. This is merely an estimate, yet it could spark a debate about whether fed policy is currently dovish (real rates falling) or hawkish (real rates steady or higher), depending upon one’s forecast for the economy.

There are signs of weakness in both housing and autos. In November total seasonally adjusted vehicle sales rose 2.1% month-over-month but were still down 6.1% YOY. Total sales of light weight trucks fell 2.7% YOY. Of this, domestic sales of light weight trucks fell 1.9% YOY and foreign sales of light weight trucks fell 5.7% YOY. It appears that tariffs on foreign vehicles and interest deductions on domestic vehicles are supporting domestic sales even during a sales slump. (The One Big Beautiful Bill allows consumers to deduct interest paid on loans for new, domestic-assembled vehicles purchased for personal use between 2025 and 2028. The benefits of this should show up in the first quarter as taxpayers file 2025 returns.) See page 7.

The University of Michigan consumer sentiment ended four straight months of declines by increasing from 51.0 to 53.3 in December. The rise was due entirely to expectations, which jumped from 51 to 55. Present conditions fell from 51.1 to 50.7. Total consumer credit rose $9.2 billion in October, or 0.2% for the month, and revolving credit rose $5.4 billion, or 0.4%. As a result of this increase, the 6-month rates of change for total, nonrevolving, and revolving consumer credit were 0.9%, 0.8%, and 1.2%, respectively. This is a big improvement from the negative – and worrisome — rates of change seen from December 2024 through May 2025. The year-over-year changes are still negative for revolving credit but are positive for nonrevolving and total credit growth. See page 8.

The Fed meets this week, but next week on December 16, 2025, the BLS will release the employment report for November and on December 18, 2025, will release the CPI and real earnings for November. On December 23, 2025, the Bureau of Economic Analysis will release the initial estimate for third quarter GDP. All these reports have the potential to move the market and will provide expectations for what the Fed may do at its January 27-28, 2026, meeting. However, in the interim, a new Fed Chair is apt to be announced and that may override any and all economic data!

Third quarter earnings season is ending and there was little change in earnings estimates this week. However, we would note that the current S&P Dow Jones consensus estimate for 2025 S&P 500 earnings is $263.75 and LSEG IBES’ estimate is $271.81. Our long-standing earnings estimate of $270 once looked too high but could be too low! For 2026, S&P Dow Jones estimates earnings of $308.28 and LSEG IBES estimates $309.28. Our estimate of $310.50 is unchanged and again could prove to be too conservative. What is important to note is that earnings growth is supporting the current advance. That is the opposite of a bubble. This market could turn into a bubble, but we believe it is way too early to be concerned.

The technical condition of the equity market improved this week due in large part to a new all-time high in the NYSE cumulative advance decline line on December 4, 2025. The 10-day average of daily new highs also rose to 260 and the 10-day average of daily new lows fell to 51. This combination of more than 100 new highs per day turns this indicator from neutral to positive. We continue to be buyers on dips.

Gail Dudack

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The Federal Reserve will meet next week on December 9 and 10 and after significant volatility in terms of expectations for this meeting, the CME Group’s FedWatch Tool now shows an 89% chance of a 25 basis point cut in the fed funds rate. Between now and the meeting the only new data will be September’s personal income report on December 5, 2025. This release will also include personal expenditures and the PCE deflator which is the Fed’s favorite inflation benchmark.

Keep in mind that the headline PCE deflator showed prices rising 2.7% YOY in August and the core PCE deflator showed prices rising 2.9% YOY. We do not expect any big surprises from this week’s PCE report since September’s CPI and PPI reports have already shown there was little change in inflation trends at the end of the third quarter. September retail sales have been reported as well, and while year-over-year growth was down from August’s pace, growth in total retail sales remained in line with the 4% YOY seen most of this year. From this report we infer that personal income growth was roughly in line with the 5% average seen most of this year.

Rescheduled government data releases indicate November’s job report will be announced on December 16 (there will be no October employment data), November CPI will arrive December 18, and the first estimate for third quarter GDP will be released on December 23. And since third quarter’s earnings season is ending, there will be little information to keep investors and traders busy through the end of the year. This lack of information could make markets edgy, and it does make December’s FOMC meeting even more important than usual. In fact, if the Fed fails to cut rates next week, it will be a big disappointment to the market, and stocks could move significantly lower, in part due to the disappointment with the Fed and in part due to the data vacuum that lies ahead. A 25 basis point cut in the fed funds rate would lower the range to 3.5% to 3.75% and we believe it would be prudent for the Fed to cut rates.

Given the absence of updated employment or inflation data, the November Beige Book is worth noting. November’s report noted that from early October to mid-November – despite the 43-day government shutdown – economic activity was little changed. In fact, the report reads much like the previous two reports. Most regions noted that consumer spending declined slightly and a few retailers suffered from the government shutdown. Employment fell a bit and some businesses indicated that artificial intelligence lowered the need for new hires. However, layoffs remained in check. In terms of expectations, businesses anticipate moderate upward cost pressures, although plans to raise prices in the near term were mixed. In sum, the Beige Book reflected an economy that continues to advance but remains fragile.

The ISM manufacturing index was relatively unchanged in November, easing from 48.7 to 48.2. Production rose from 48.2 to 51.4, a 9.9% YOY rise; but new orders fell from 49.4 to 47.4 and backlog of orders fell from 47.9 to 44.0. Prices paid rose from 58.0 to 58.5, and have been above 50 since the end of 2023, except for September of 2024. The index for imports and exports rose in November, yet both remain below the breakeven 50 level. See page 3. The employment index fell to 44.0 from 46.0, which means the ISM nonmanufacturing employment index needs to remain above 48.0 to keep the ISM employment index from returning to negative.

As we noted late week, the headline of September’s employment report appeared healthy with 119,000 new jobs added in the month. But this was deceiving. There were only 66,000 new jobs added in the month if all the negative revisions were included. And if the BLS continues in its normal pattern, one could expect that September’s 119,000 will be revised lower as well. Since jobs in the establishment survey were growing by a mere 0.8% YOY and the household survey showed job growth at 1.1% YOY, even small revisions could shift this skimpy growth to negative. Negative growth in jobs is the first, and most important signal of a recession. In short, the Federal Reserve should cut interest rates to help support the weakening job market.

And finally, Fed governors, or economists, who believe a fed funds rate cut is unnecessary should remember that the jobs data will be revised by the BLS in early February 2026 with the release of the January 2026 data. This annual benchmark revision is based upon the Quarterly Census of Employment and Wages (QCEW) which is derived primarily from state unemployment insurance tax records. Nearly all employers are required to file these records and pay taxes to their state workforce agencies. In September, the BLS stated that their preliminary benchmark revision would lower total nonfarm employment for March 2025 by 911,000, a decline of 0.6%. For the same period, total private sector jobs were revised down by 880,000, or a decline of 0.7%. (https://www.bls.gov/news.release/pdf/prebmk.pdf) This may not sound like much of a difference, but over the last ten years these benchmark revisions were typically 0.2% or less, and went relatively unnoticed. This will be the third consecutive year of annual revisions that are two or three times the norm and it creates doubts about the accuracy of the BLS. Nevertheless, given that it is known that revisions to current jobs data (already reported) will be lower by nearly one million jobs, we believe the Fed should lower interest rates.

Like this week’s lack of economic data, there was little change in our technical indicators. The 25-day up/down volume oscillator is negative 0.35, down slightly from last week, but still neutral. The last positive readings in this indicator were the one-day overbought readings of 3.15 on July 3 and 3.05 on July 25. See page 6. To confirm the recent advance, the oscillator should record an overbought reading of 3.0 or higher for a minimum of five consecutive trading days. At present, this indicator suggests advancing volume has been weaker than declining volume and the longer this disparity continues, the greater the risk is that equities experience a near-term pullback.

The 10-day average of daily new highs fell to 156 this week and new lows also fell to 121. This combination of daily new highs above 100 and new lows above 100 keeps this indicator neutral. On April 11, the 10-day new low index (823) was the highest since the September-October 2022 low (882). This was the sign of a major bull market in force. The NYSE cumulative advance/decline line made a new high on October 27, 2025, which confirmed the October highs in the indices. See page 7.

Last week’s AAII survey showed bullishness fell 0.6% to 32.0% and bearishness fell 0.9% to 42.7%. Bullishness is below average, bearishness is above average, and the neutral rating was low at 25.3%. The 8-week bull/bear is -4.8% and neutral, following three consecutive weeks in positive territory in late September. All in all, there are mostly neutral readings, and some technical indicators suggest there is risk of a near term correction. If so, we would be a buyer of weakness. The most bullish factor of the current advance is that S&P 500 earnings growth is currently over 13% YOY and well above the average of 8%. In sum, this rally is supported by solid fundamentals.

Gail Dudack

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