New data releases on US jobs and the PCE deflator will be important later this week. Treasury bond and note interest rates are currently at multi-decade highs and equity investors are eager for good news on both the economy and inflation. But it is important to note that the rise in interest rates is not only taking place in the US, it is a global trend. France and the UK are also struggling with excessive national debt and political disaffection. France’s woes have driven the yield spread between French and German bonds to multi-year highs just as French Prime Minister Sébastien Lecornu prepares to unveil a $61.5 billion spending cut to rein in a deficit expected to soon rise to 5.4% of GDP. France plans to sell a record $385 billion of bonds in 2027 as Covid-era debt comes due; meanwhile, French debt hit 119% of GDP in June. British Prime Minister Andy Burnham, at his first Labour conference speech as leader of the country and party, has promised to “break the old mold” and put the UK on a “new path of equitable growth.” UK Finance Minister John Healey will deliver the new Labour government Autumn Budget this week and it will be highly scrutinized since the country faces ballooning debt costs and slower economic growth. And this is all happening as sovereign debt markets are competing with massive bond sales by big tech to drive AI investments.

Treasury Bond Yield Curves

In the US, the 30-year Treasury bond yield spiked to 5.62% this week, the highest intraday level since June 2002. It was a 24-year high. The 10-year Treasury note yield rose to 5.29%, its highest level since June 2007. These sharp increases in interest rates are making financial markets nervous; however, we would point out once again that interest rates and the Treasury yield curve are simply moving toward their long-term averages. In fact, the 5- and 10-year Treasury note yields remain slightly below their long-term averages. See page 3. An upward-sloping yield curve is a normal sign of a growing economy. And while there are signs of weakness in the housing and auto sectors, there are healthy signals from US manufacturing and retail sales. Many investors are worried about rising rates since rates have been so low for so long. However, the inverted yield curves seen in 2023 and 2024, which seemed to be the norm, were the real anomalies. An inverted yield curve is usually a sign of a serious economic recession. In our view, the markets will eventually adjust to more normal, and somewhat higher interest rates.  

New Signs of Economic Growth

The Census Bureau’s business formation data shows a strong trend in new business creation. This data tracks applications for an Employer Identification Number (EIN), which is a unique federal tax identifier given to wage-paying businesses. (Sole proprietorships with no employees may not have an EIN.) The Census Bureau also categorizes business applications as “high propensity,” if they have a high likelihood of leading to a business with a payroll. Manufacturing, retail, healthcare, and food service all fall under this category. In our view, it is likely that AI is empowering new business formation, particularly single-person companies, known as solopreneurs.

This data on business creation dovetails with the fact that unemployment claims are trending lower, consistent with full employment. Initial unemployment claims have been averaging less than 220,000 per week all year, which is well below the long-term average of 365,000 per week. See page 4. 

Manufacturing Resurgence

Total durable goods shipments were unchanged in the month of August but rose 8.5% YOY. However, when excluding defense and aircraft shipments – a proxy for business investment – core shipments increased 11.4% YOY. Similarly, total durable goods orders were up 8.5% YOY; but core orders increased 14.1% YOY. This dramatic improvement in core durable goods orders is a major shift from the negative trend seen from February 2014 to January 2025. See page 5. In short, this sharp improvement in core durable goods shipments and new orders is in line with the strength seen in the ISM manufacturing survey this year as well as the growth seen in manufacturing payrolls. The current administration has placed a priority on bringing manufacturing back to the US and it appears to be working.

Residential Real Estate and Homeownership Continues to Weaken

In the month of August, new home sales were 684,000 units, up from July, but down 2.0% YOY. Weakness was concentrated in the Northeast and West, while sales increased in the South and rose significantly in the Midwest. Months of supply fell from 9 months to 8.5 months. The median price of a new home was $395,200, up slightly from July, but down 5.4% YOY and the average price of a new home was $478,700, down from July and down 8.6% YOY. Overall, data on new home sales corroborates the trend in existing home sales, which suggests the housing sector continues to slow. See page 6.

Homeownership was 65.0% in the second quarter, down from 65.3% in the first quarter. There was a large 1.6% decline in ownership for those under 35 years of age (now at 35.2%) which reinforces the view that young people are having a difficult time entering the housing market. In line with lower homeownership, the household debt service ratios also declined in the second quarter. The total debt service ratio (DSR), the ratio of total required household debt payments to total disposable income, eased from 11.16% to 11.11%. The DSR is divided into two segments, the mortgage debt ratio, which eased from 5.87% to 5.83% and the consumer debt service ratio which edged down from 5.29% to 5.28%. All in all, these numbers indicate that most households have sufficient income to cover their mortgages and loans. See page 7.

Earnings Growth and Technicals

For the first time since May, consensus earnings forecasts for 2026 and 2027 did not increase. The cuts were small and likely just accounting adjustments. However, third quarter earnings season will begin in mid-October, and we wonder if the equity market will be facing its first earnings season with fewer positive surprises. If so, how will investors react? FactSet indicates that analysts are currently forecasting earnings growth of 29% YOY for the third quarter, which would be the third consecutive quarter of growth greater than 25%. The bar for earnings growth continues to move higher. We may be worried about third quarter earnings season because it begins just before the midterm elections and pre-election markets tend to be volatile. Moreover, technical indicators have deteriorated in recent days, and this makes us cautious for the near term. The 25-day up/down volume oscillator is at negative 3.18, down from last week, and displaying its first oversold reading since October 2023. In 2023, the S&P 500 fell from 4588.96 on July 31, 2023 to 4117.37 on October 27, 2023, a decline of 10.3%. In the same general time period, the Dow Jones Industrial Average fell 9% and the Nasdaq Composite declined 12.3%. The equity market has not had a 10% correction since the first quarter of 2025 and is overdue for a pullback of 10% or more. Several technical indicators are now signaling that the underlying market is already experiencing an internal correction. The S&P 500 is apt to join in.

Gail Dudack

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The stock market has not made much headway since early June, but this is not a surprise given the steady stream of challenges it has weathered in the last four months. Markets have dealt with WTI crude oil prices over $100 a barrel, the 30-year Treasury bond yield hitting a 19-year high of 5.34%, US gross national debt exceeding $40 trillion, the first Federal Reserve rate hike in over three years, a steadily weakening residential real estate market, the Middle East conflict expanding, and Yemen’s Houthi rebels bombing the Saudi Arabian capital city of Riyadh and some key oil facilities. Given this string of issues, it is impressive that the S&P 500 index has traded in a tight 6% range for the last 16 weeks and is only 0.5% away from a new record high.

Technical Indicators are Weakening

While the Nasdaq Composite index jumped to a new high this week (on hopes of a Middle East peace agreement), the Dow Jones Industrial Average is trading 4.6% below its record high and the Russell 2000 — which had been the outperforming index for most of this year — is trading 5.8% below its high. This dichotomy is showing up in market breadth data, and the technical underpinnings of the equity market have been weakening in recent weeks. On the NYSE the number of daily new lows have outnumbered daily new highs for 15 of the last 16 trading sessions. The 10-day average of daily new highs is 118 this week and new lows are more than triple at 422. The combination of daily new highs above 100 and new lows above 100 shifted this indicator from positive to neutral in mid-May. But the margin between new lows and new highs have been widening in recent weeks, and this indicator now tilts negative. See page 8.

Our 25-day up/down volume oscillator also looks precarious. It is currently at negative 1.75, down from last week’s reading, but still in the neutral range. However, late last week this indicator fell to negative 2.17, its lowest reading since January 2025. See page 7. As a reminder, the market rallied after a similar reading in January 2025 but then dropped nearly 19% after President Trump announced his tariff policy in early February 2025. We do not know if we can draw any conclusions from this, but the geopolitical environment does appear to be vulnerable to significant announcements, good or bad, and we think it would be prudent to be cautious near term. Simply put, the decline in this oscillator at the same time that the Nasdaq Composite is making a new high reveals there is significant selling into strength. It is a warning.

We are also watching the NYSE cumulative advance/decline line which last made a new high on August 14, 2026. This high was in line with the all-time high made in the Russell 2000 index. While a 26-day divergence between the high in the cumulative advance/decline line and the new high in the Nasdaq Composite is not significant, we have found that divergences that last for 40 trading days or more are often a precursor to a 10% correction. We will continue to monitor this indicator. See page 8.

On the other hand, AAII investor sentiment had big positive changes this week. Bullishness fell 9.2% to 28.8% and bearishness rose 14.0% to 53.3%. Bearish sentiment was last higher on May 1, 2025 (59.3%) and readings are now moving toward the 20/50 split that is positive — 20% or less bullishness and 50% or more bearishness. For perspective, on April 2, 2025, a reading of 61.9% bearishness represented a new high for this cycle and was the most positive signal since the October 19, 1990 reading of 67% bearish. This 1990 reading appeared just after the S&P 500 made a low on October 11th at 295.47, down 20% from its high. In short, AAII sentiment is displaying pessimism, which is good, but sentiment readings have been far more extreme at significant lows. See page 9.

Given the deterioration in technical indicators and the weak seasonal pattern that typically precede midterm elections, we are more cautious than normal.

Earnings Continue to Support

Both LSEG IBES and CFRA Global consensus earnings estimates for 2026 and 2027 continue to increase. Estimates for 2026 are now $363.88 and $360.50, respectively. And the 2027 forecasts are $419.93 and $417.29, respectively. The LSEG IBES 2028 forecast increased $0.50 to $487.44 this week. This means the market is trading at 21.3 times the IBES 2026 estimate and 18.5 times the 2027 estimate. Both multiples are reasonable. See page 5.

The forward earnings yield of 5.1% and dividend yield of 1.1% compare favorably with a 10-year Treasury bond yield of roughly 5.0%. Moreover, the estimated CFRA Global 12-month trailing sum of operating earnings shows a gain of 30.1% YOY (it was 17.6% in December), which is far better than the 75-year average of 8.1% YOY. Forward operating earnings growth is currently projected to be 16.6% YOY. All in all, the earnings and valuation underpinnings of the market suggest any volatility or weakness in the near term will be temporary. So, while we are cautious near term we remain bullish for the longer term.

Consumer versus Residential Housing

Consumer resiliency was displayed in August’s total retail sales report which showed sales up 6% YOY versus 5% YOY in July. Gas station sales rose 21% YOY, up from 17% YOY in July. Retail sales excluding auto and gas station sales increased a healthy 5.6% YOY, up from 4.7% in July. In short, August’s gains were strong and broadly based. Real retail sales were up a solid 1.9%, the same as in July. Year-over-year real retail sales have been positive for the last two years after being negative (and recessionary) for most of 2023 and 2024. See page 3.

We worry that gasoline prices are crowding out other consumer spending. However, when we compare gas station sales to grocery store sales, we see that despite this year’s rise in gasoline prices, the ratio of grocery to gas sales is not nearly as burdensome today as it was in 2022 or the 2011-2014 period. This may be due to more energy efficient and electric vehicles. Nevertheless, the fact that gasoline spending is not at record highs, is reassuring. See page 3. Conversely, the housing market remains in a slump. The pending home sales index for August rose from 71.0 to 71.2 but was down 4.7% YOY. The August strength came entirely from the South and the West. Residential construction for July was down 7.3% YOY and has been decelerating since early 2025. Housing starts for August were down 2.6% YOY, and multifamily starts plummeted 21.7% YOY. Housing permits were also down 2.7% YOY with multifamily permits off 4.3% YOY. Housing completions fell nearly 12% from a year ago. In sum, the residential housing market has been soft for several years and rising interest rates will add to the burden in this sector. This is a concern, since NAHB data for the end of 2024 shows that housing is an important sector of the economy, representing over 16% of total GDP. See page 4.

Gail Dudack

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Global bond yields hit levels last seen in 2008, crude oil prices soared over the worrisome $100 a barrel level, investors remain nervous about AI spending, and AI leaders call for a reining in of AI development. The Houthis announced a number of attacks on Saudi Arabia, one of which knocked out one of the Kingdom’s most important oil transport routes and another that struck an air base. US Space Force chief Douglas Schiess confirms the US does “operate on-orbit weapons that can defend the Joint Force against space-enabled attacks” while the US Senate fails to advance comprehensive cryptocurrency legislation backed by President Donald Trump and the crypto industry. And these are just a few of the issues that color the world financial scene as the Federal Reserve meets this week.

One might wonder why the stock market has not had a more sizeable decline given the rise in both oil and bond yields. After more than a week of falling prices, the S&P 500 is only 2.7% away from its all-time high. The Dow Jones Industrial Average and the Nasdaq Composite are only 4.1% below their highs. The more volatile Russell 2000 index is 6.5% away from its record high, but still up 15.7% year to date. Most popular indices are up double-digits year-to-date.

One reason stocks may be more insulated from oil prices than expected is that the economy is less oil-intensive than it used to be. Energy spending accounted for 5.7% of disposable consumer income in 2024, compared with nearly 10% in the 1980s, according to the American Petroleum Institute. And energy represents around 5.5% of GDP, nearly half of what it was in 2008, according to the US Energy Information Administration. But soaring gasoline, diesel and fuel prices still eat into discretionary spending. This is particularly true in California.

The state of California operates much like an island when it comes to gasoline. The state requires a special blend of fuel that results in lower air pollution to avoid the smog that used to blanket Los Angeles. This combination of California’s unique proprietary fuel blend, declining gasoline demand driven by zero-emission vehicle mandates, and a lack of out-of-state pipelines; means California has lost 17% to 20% of its refining capacity due to the structural shutdown of Phillips 66’s Los Angeles refinery (139,000 b/d) and Valero’s Benicia plant (45,000 b/d). As a result, the state relies heavily on foreign and out-of-state fuel imports. This adds to the prices increases seen in California. In addition, when combining all state levies, local taxes, environmental programs, and federal mandates, the total cost allocated to taxes and fees on a single gallon of gas is roughly $1.20 in California. See page 6 for more details.

But in general, the housing market could have an even bigger impact on the broad economy than oil. The housing market represented nearly 16% of GDP in the second quarter when one includes a cross section of construction, home improvements, rents, and fees. The residential real estate market has been sluggish for nearly four years, and rising interest rates are not going to help.

With regard to this week’s FOMC meeting, we do not believe recent inflation data alone guarantees a rate hike. Headline CPI in August was 3.4% YOY and unchanged from July. Core CPI was 2.4%, down from 2.5%. These were moderate numbers. See page 3. However, the PPI for final goods jumped 5.4% YOY in August, up from 4.8%. This uptick was driven by the energy index which rose 16.3% YOY, up from 14.7% YOY. What is more important is that crude oil prices are up dramatically from the end of August, and this suggests inflation data will be worse next month. For this reason, we are changing our view and expect the Fed will raise rates. This is the consensus view.

A Fed rate hike will not have any influence on the price of crude oil since this is a supply problem, not a demand problem. Still, we expect markets to react poorly if the Fed fails to raise rates. In the aftermath of the meeting, the reaction of the 10-year Treasury yield will be the most important factor to monitor. Shortly after this meeting we expect a debate will begin over whether this will be a one-off rate hike or the beginning of a series of rate hikes.

The charts on page 4 may help explain the angst related to the Fed raising rates. Fed policy changes were frequent from 1950 to 1988. But beginning with the chairmanship of Alan Greenspan (August 11, 1987 to January 31, 2006), who stepped in just before the Crash of 1987 and successfully dealt with that crisis, a policy of longer and more strategic programs of easing and tightening commenced. In the last twenty years there have only been two tightening cycles and no one-off rate hikes. The December 2015 to December 2018 cycle saw an increase from a low in the fed funds range of 0% to 0.25% to a high of 2.25% to 2.50%. The second cycle was from March 2022 to June 2023 from a fed funds low of 0% to 0.25% to a high of 5.25% to 5.5%.

In between these two tightening cycles, the real fed funds rate was negative (lower than inflation), and monetary policy reached its “easiest” level in 75 years. Specifically, in March 2022 the fed funds rate averaged 0.38% and the CPI reached 8.5% YOY for a negative real fed funds rate of 8.2%. It was a tragic miscalculation by the FOMC at that time, and it let commodity-led inflation shift into the service sector. See page 4. Overall, investors have experienced unusually easy Fed policy in the last two decades and have relied on Fed policy to support the economy and the stock market. Chairman Kevin Warsh is looking to change this dependency and the blowback is interesting. 

A 65-year chart of government interest rates (page 5) shows how extraordinary the last 25 years have been for investors. Interest rates have been in a secular decline since 1981, and interest rates have generally remained below the 4% level for most of the last two-and-a-half decades. However, many economists are questioning whether this long cycle of declining interest rates is over. We would add that there are reasons to believe commodities are in demand throughout the world, which implies higher commodity prices and more inflation ahead. Both are likely in our opinion. If this is correct it will require a change in long-term investment strategy.

But overall, the fear regarding the level of interest rates and the slope of the yield curve is overdone in our opinion. The inverted yield curves of December 2022 and December 2023 were the worrisome curves since inversion is a sign of a potential recession. This was followed by a flat yield curve in 2024 which is a classic sign of a weak economy. The current slope of the yield curve is right in line with the average yield curve, and it remains below average levels. See page 5. In sum, there is no reason to panic. And while we expect a Fed rate hike this week, it could be a one-and-done if the war in the Middle East is resolved. September and October tend to be the weakest months of the year, and this is particularly true in midterm election years. However, a year-end rally tends to materialize regardless of the election outcome. Investors should prepare for volatility and opportunity.

Gail Dudack

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As we noted last week, seasonal patterns going back to 1950 show that September is the weakest month of the year in terms of stock market performance. September can be particularly weak during midterm election years. But this year the equity market also faces growing tensions in the Middle East since the conflict appears to be expanding after Iran-backed Houthis attacked four Saudi Arabian cities, disrupting energy facilities and wounding 73 civilians. This drove oil prices even higher. The continuous WTI intermediate crude oil future contract advanced another 1.7% to close at $93.03 on September 8, 2026 which is up from a recent closing low of $68.55 on July 6, 2026. Rising oil prices pushed the 10-year Treasury bond yield to 4.8%, as it inches toward the important psychological 5% level.

Carry Trade Jitters

And Iran was not the only development of the week. The Japanese yen surged from 160.17 yen per dollar to 153.73 recently, in anticipation of an interest rate hike by the Bank of Japan (BOJ) next week. However, the move in the yen is threatening an unwinding of the popular carry trade. The carry trade involves borrowing yen at low cost to invest in other currencies and assets offering higher returns. This trade is profitable in calm markets but is dangerous if the yen is volatile. According to a Jefferies analysis of BIS data, cross-border yen borrowing – a proxy for the carry trade – rose to a record $2.35 trillion as of March. This represents the largest carry trade build-up in three decades!

An unwinding of the carry trade could send tremors across global markets. The last disorderly unwinding of the carry trade occurred in August 2024 when a 25-basis-point rate hike by the BOJ sent the yen higher and the Nikkei 225 fell 12.4% in a single day, its worst one-day drop since 1987. In short, there are many things that could make equity markets nervous and unpredictable this September.

September Fed Meeting

Closer to home, the Federal Reserve will also meet on September 15-16 and the CME’s FedWatch shows a 40.6% probability of no change in the fed funds rate and a 59.4% probability of a 25-basis-point increase. This week’s releases of the PPI (Thursday) and CPI (Friday) could prove pivotal in terms of the outcome of next week’s FOMC decision.    

We do not expect the Fed to raise rates in September, but the arguments in favor of an increase are rising. Another one of these arguments is the resiliency in the jobs market.

Employment

The BLS employment report for August showed payrolls increased by 162,000 in the month, but more importantly, revisions reversed July’s loss of 23,000 jobs to a gain of 21,000 jobs, and June was revised from 20,000 new jobs to a gain of 31,000 new jobs. In sum, the August payroll report reflected an overall gain of 194,000 new jobs. Three quarters of the August gains were concentrated in leisure/hospitality, government, and healthcare. There were job losses in the information and financial sectors. Retail trade gains were miniscule.

Our favorite economic indicator is the year-over-year growth in total jobs, and this grew a mere 0.38% YOY in the establishment survey and fell 0.38% YOY in the household survey. Both surveys are well below the average gain of 1.5%-1.7% YOY.

The household survey is broader since it includes workers who may not receive a W-2, may be self-employed, a home worker, or an undocumented worker. The household survey is also impacted by the annual US Census population adjustment, which can result in a significant jump or decline in the numbers each January. These adjustments in 2024 and 2025 were unusually large, making the household survey less useful in the last two years, in our view. Still, the negative job growth seen in 2024 and 2026 in the household survey is worrisome since negative growth typically indicates a recession. It is possible that the current administration’s policy of deporting illegals is, at least in part, responsible for the negative growth in jobs in the household survey, and therefore it is a temporary disruption. See page 3.

Discouraged workers fell to 41,000 in August, which was the third-lowest level in the last 20 months. This is a sign of a healthy employment market, and it is in line with the unemployment rate, which has been steady at 4.1% for three consecutive months. The biggest improvement in unemployment rates was seen for workers with less than a high school diploma. This seasonally adjusted unemployment rate fell from 5.4% in July to 4.7% in August. (On an unadjusted basis this unemployment rate fell from 5.1% to 4.1%.) The unemployment rate for workers with a bachelor’s degree or higher was low and unchanged at 2.7%. See page 4.

Technicals are Weakening

Along with the negative seasonality for September, we see some near-term weakening in the technical condition of the equity market. Our 25-day up/down volume oscillator is at 0.15, up slightly from last week but still in the neutral range. Neutral readings in this oscillator while the indices are recording or near all-time highs reveal significant selling into strength. See page 7.

The 10-day average of daily new highs was 168 this week and new lows were 184. This combination of daily new highs above 100 and new lows above 100 shifted this indicator from positive to neutral in mid-May. But this week’s average daily new lows outnumber new highs and tilts the indicator slightly negative. The NYSE cumulative advance/decline line made a new high on August 14, 2026, which is bullish, and in line with the new highs recorded by the DJIA, S&P 500, and Russell 2000 at that time. But both the advance/decline line and the indices have moved sideways in the last three and a half weeks. See page 8. The last significant correction in the S&P 500 was in 2025 between February 19, 2025 (SPX 6,144.15) and April 8, 2025 (SPX 4,982.77), when the index fell 18.9% in response to President Trump’s Liberation Day tariff announcement. The market is overdue for a 10% correction.

Earnings On the other hand, the earnings outlook remains strong. This week the LSEG IBES consensus earnings estimate for 2026 increased $1.23 to $363.49, the 2027 forecast rose $6.30 to $418.76, and the 2028 forecast increased $12.00 to $482.76. The S&P Global consensus earnings estimate rose $0.37 for 2026 to $360.22 and increased $1.13 to $416.05 for 2027. The market is now trading at 21.2 times the IBES 2026 estimate and 18.4 times the 2027 estimate. See pages 5 and 12. Including 2026 S&P Global estimates, the 12-month forward PE multiple is 17.7 times and below its long-term average of 17.9 times! When this PE is added to inflation of 3.4%, it comes to 21.1, which places it within the normal range of 15.0 to 24.4 in terms of long-term valuation metrics. In sum, September and October may be volatile months, but we expect this could create a good long-term buying opportunity.

Gail Dudack

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Stocks remain inversely linked to the price of crude oil. So, it is not surprising that this week’s bombing of Iran drove WTI crude futures to $90.66 (in after-market trading) and stock prices fell. However, the 419.02-point decline in the DJIA and 54.67-point decline in the SPX may seem like a mild response to what was a significant jump in energy prices. The charts on page 3 may help explain this lack of concern about the Middle East escalation.

Comparing 2026 to 2022

WTI is trading above $90 a barrel today, but it remains well below its peak of $123.70 a barrel recorded in March 2022. There was no war in the Middle East in 2022, but the conflict between Ukraine and Russia had begun in February 2022 and there was fear of oil shortages due to this conflict. However, a main issue impacting energy supply was the Biden administration’s green energy campaign and the restrictions it placed on fossil fuels. The Biden administration declared US oil production was at record levels in 2022, but this was inaccurate. US crude production was up from the anemic levels seen during the COVID shutdown, but it was not at record levels. According to the US Energy Information Administration (EIA), the average annual US production of oil was 11.91 million barrels per day in 2022, down from 12.29 million barrels per day in 2019. The US went from producing 15% of world crude production in 2020 to 14.6% in 2021 and 2022. In comparison, the EIA projects US 2026 production will be a record 13.8 million barrels per day, and this will represent more than 16.1% of total global crude production.

Rising energy and gasoline prices are what drove the CPI to 8.5% YOY in March 2022; however, this was only a stop on the way to the CPI’s 9.1% YOY rise in June 2022. In short, inflation problems were much worse in 2022 than they are today.

The 10-year Treasury bond yield jumped to 4.79% on this week’s war news. But it is the rise in global benchmark yields that is also spooking the fixed income market. Japan’s 10-year benchmark yield hit 3% the highest in 30 years, and British and euro bonds reached their highest levels in over a decade. The rise in the US 10-year Treasury yield is relatively modest in comparison since it remains below its 5.02% high made in October 2023.

Comparing Treasury bond yields in 2022 to current levels is complicated. The 10-year Treasury bond yield was only 2.4% in March 2022, but it was pegged to the fed funds rate that was zero at the start of the month. In early March 2022, the Federal Reserve had not begun to increase interest rates even though inflation had been running above 7% YOY for three consecutive months! The Federal Reserve finally raised rates in mid-March to a range of 25 basis points to 50 basis points. This started the US Treasury bond yield’s steady rise to 5.02% in October 2023.

Continuing our comparison, GDP declined 1.0% in the first quarter of 2022 and rose a mere 0.6% in the second quarter of the year. S&P trailing operating earnings grew 39.8% in the first quarter of 2022, or 31.3% after inflation, but this earnings gain was a rebound from negative earnings growth a year earlier. More importantly, positive S&P 500 earnings growth was not sustained in 2022, and operating earnings growth was negative 5.4% by the end of the year.  

In our view, the current rise in crude oil prices is substantial, but not as extreme as in 2022, and it is taking place in a very different environment. The crude price spike is apt to be temporary, particularly if the conflict in the Middle East is settled quickly. If not, oil production in the US and Venezuela may compensate for what might be lost from the Middle East. Iranian oil goes primarily to China, so China may be suffering the greatest risk if the conflict continues. In sum, crude oil and inflation are not as high as they were in 2022, and both are apt to trend lower in the longer run. The US economy and corporate profits are healthier today than they were in 2022 due to a business-friendly approach to fiscal policy. These are some of the reasons why the equity market is not panicking.  

But this does not mean there are no other things to worry about. Debt issuance by hyperscalers is also stressing the fixed income markets and the AI revolution is coming under heavy scrutiny. Data centers are facing a very harsh and public backlash. Analysts are worried that the $460 billion debt issued by major AI players, supplemented by an estimated $1.2 trillion in off-balance sheet lease commitments for future data centers, will not be justified by future revenues. Not surprisingly, the AI-driven momentum trade that powered stocks higher in recent quarters, suddenly unraveled in August. Some analysts may be concerned about this about-face in AI-related stocks, but we believe it is a good thing for the long run. For those worried about a stock market bubble, this AI skepticism is the opposite of what is seen at a bubble top.

Is Seasonality a Factor

Seasonality is not a perfect guide since stocks are constantly buffeted by a variety of unexpected factors. Nevertheless, the monthly seasonality reported in the 2015 Stock Trader’s Almanac has not changed significantly in the last 11 years. See page 4. Specifically, the weakest months of the year tend to be September, August, June, and February, in that order. Conversely the strongest months are December, November, April, and March, in that order. More recent data shows the weakest months tend to be the same, but best monthly performances in order are now November, April, December, and July. This seasonal pattern tends to be exaggerated in the midterm election year due to a normal pre-election selloff and a post-election rebound. This is not good news as we begin the month of September, but it does suggest a good buying opportunity may lie ahead.

Earnings Season Comes to a Close

As second quarter earnings season ends, we are surprised that consensus forecasts for this year and next continue to rise by dollars not cents. This week the LSEG IBES consensus earnings estimate for 2026 increased $0.57 to $362.26 and the 2027 forecast rose $2.45 to $412.46. The 2028 forecast increased by $3.60 to $470.50. The S&P Global consensus earnings estimate rose $1.00 for 2026 to $359.85 and increased $7.66 to $414.92 for 2027. These changes mean the market is now trading at 21.2 times the IBES 2026 estimate and 18.6 times the 2027 estimate. The forward earnings yield of 5.2% and dividend yield of 1.1% still compare favorably with a rising 10-year Treasury bond yield approaching 4.8%. Moreover, the estimated S&P Dow Jones 12-month trailing sum of operating earnings shows a gain of 29.9% YOY (it was 17.6% in December), which is far better than the 75-year average of 8.1% YOY. Forward operating earnings growth is currently 16.9% YOY. See page 5.

In terms of valuation, note that the current 12-month forward PE multiple is 17.6 times. This is below the long-term average of 17.9 times. And when this PE is added to current inflation of 3.4%, it comes to 21.0, which places it well within the normal range of 15.0 to 24.4. In short, stocks represent good value. The conflict in Iran may get worse before it gets better so we would wait to see what unfolds this week. Nevertheless, wars tend to be positive for earnings, so we remain bullish on equities.

Gail Dudack

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