US Strategy Weekly: Slippage Ahead?

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

Click to Download