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The real bull market may finally ‘wake up’ as investors eye rate cuts
Since the beginning of the bull market in October 2022the stock market’s upward movement was largely due to artificial intelligence and the outperformance of some large stocksraising concerns among investors that the gains will not be widespread enough for the rally to continue.
This may be changing.
Thursdays better than expected inflation reading has sent the stock market into a frenzy in recent trading days. As investors quickly priced in higher chances of a Federal Reserve interest rate cut in SeptemberThe market’s most beloved areas last year underperformed as investors flocked to sectors outside of technology.
The Roundhill Magnificent Seven ETF, which tracks the group of big tech stocks that led the 2023 stock market rallyhas fallen more than 1.5% in the last five days. Meanwhile, the real estate market (XLRE) and Finance (XLF), both interest rate-sensitive sectors, were the market’s biggest winners over the same period. The small-cap Russell 2000 (ROUTINE) the index rose more than 7% and finally reached its 2022 peak for the first time during the current bull market.
In another sign that a broad swath of stocks is recovering, the equal-weight S&P 500 (^SPXEW), which ranks all stocks in the index equally and is not overly influenced by the size of stocks that move up or down, outperformed the traditional market-cap-weighted S&P 500.
Ritholtz Wealth Management chief market strategist Callie Cox told Yahoo Finance that the market action lately has been “refreshing” and could be a sign of a maturing bull market where a broad range of stocks are contributing to the rally, providing further support for equity indexes at record highs.
“If this negotiation continues, if the prospect of a rate cut is still on the table this fall, then we could finally see the bull market wake up, and that’s good news for all investors,” Cox said.
This isn’t the first time strategists have been bullish on market rotations like the one currently underway. Other bouts of broad-based rallies have been celebrated in December 2023 and during the first trimester this year.
The question is whether a major extension of stock market gains is finally happening this time, or whether this is yet another farce as the market becomes overly optimistic about Fed rate cuts.
“The level of conviction we have is higher now than it was in December [during the Fed pivot-driven market rally]”, Bank of America Securities senior equity strategist Ohsung Kwon told Yahoo Finance.
Kwon notes that the narrative driving the rally—hopes for a soft landing and gradual interest-rate cuts from the Fed—is largely unchanged from previous broadening bouts. But this time, he said, “the earnings backdrop is really supporting this rotation as well.”
The story continues
Bank of America’s earnings analysis shows the 493 stocks that don’t make it into Big Tech’s ‘Magnificent Seven’ Profits expected to rise year-over-year for the first time since 2022 during the current reporting period. As seen in the chart below from JPMorgan Asset Management’s mid-year outlook in June, earnings growth for these stocks is expected to accelerate in the coming quarters, while Big Tech is expected to see its earnings growth slow.
Since the gains are usually the main driver of stock pricesThat would support the theory of a broadening rally. But the key caveat is that these are just expectations. And given the market’s struggle so far this year to produce a broad range of winners, some strategists want to see actual earnings growth to confirm the narrative that’s currently baked into the estimates.
“I want to see earnings growth come from more sectors than just technology,” Cox said. “I think that’s the big theme of this particular season. You know, seeing how many sectors can really contribute and lift S&P 500 earnings expectations.”
The same could be said for the other narrative underpinning the recent rotation. Markets are now pricing in a more than 90% chance that the Fed will cut interest rates in September, according to the CME FedWatch tool. But again, Cox is cautious about declaring that the widening is certain to continue.
“Until we’re officially in that rate-cutting cycle, it’s hard to say this widening trade is here to stay,” Cox said. “I hope so. I’m optimistic, but you’re still going to have a market that’s hanging on every piece of economic data that comes on the tape.”
Charles Schwab senior investment strategist Kevin Gordon is also cautious about declaring that the big break has arrived. Gordon noted that “more clarity” on the Fed’s cutting cycle and why it would start cutting remains paramount, particularly for the more interest-rate-sensitive areas of the market, such as small caps.
Gordon argued that the market’s recent action was a “big step in the right direction.” But a broad rally won’t happen overnight, Gordon said. He added: “The nature has been for everyone to say it’s this big rotation, but big rotations tend to take a little bit longer than a few days.”
And even if this rotation happens slowly, the index’s recent performance shows that it will mean a different, slower path for the S&P 500 as well. The S&P 500 closed lower on Thursday despite the release of a promising June inflation report. as investors moved out of big technology stocks, which have larger weightings in the index than smaller stocks.
“We could see a bit of that churn, where some stocks are passing the baton to other stocks,” Cox said. “Tech stocks are passing the baton to other stocks. Sure, we may not see prices rise as quickly as they have. But that’s the kind of move that strengthens a bull’s base. That means this rally could be stronger and last longer eventually.”
Bronze sculpture Charging Bull in the Financial District of Manhattan, New York, on October 23, 2022. The sculpture was created by Italian artist Arturo Di Modica after the stock market crash on Black Monday in 1987. (Photo by Beata Zawrzel/NurPhoto via Getty Images) (NurPhoto via Getty Images)
Josh Schafer is a reporter for Yahoo Finance. Follow him on X @_joshschafer.
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