by Professor Jeremy J. Siegel Senior Economist to WisdomTree and Emeritus Professor of Finance at The Wharton School of the University of Pennsylvania
This past week saw a notable surge in the stock market, pushing it to all-time highs, despite mixed economic data. Inflation figures, jobless claims, and sentiment reports have been uneven, but markets remain resilient, with the VIX hovering around 20—a sign that fear persists among investors. The market’s strength at these VIX levels, with heightened hedging activity, suggests more room for upside if VIX recedes.
Even as inflation data showed some moderation, there are signs we're far from a perfect environment, and that is exactly what makes the market's performance so remarkable. The Consumer Price Index (CPI) for September delivered a mixed bag. Shelter inflation was once again a key component, coming in at 0.2%, but this wasn't quite enough to bring overall inflation below expectations. Some other components, like car insurance, continue to rise, adding to inflationary pressures outside of what the Federal Reserve (Fed) can easily control. The Producer Price Index (PPI), on the other hand, was encouraging, coming in below expectations and although showing upward revisions for some prior months that led to hotter year-over-year data. This PPI report is a positive sign for the market, as it suggests supply-side inflationary pressures are starting to ease. I’m expecting the next Personal Consumption Expenditure (PCE) core number to come in around 0.2% month-over-month and 2.6% year-over-year, continuing the trend of gradual improvement.
Looking at the labor market, we saw a sizable jump in jobless claims, though part of this is likely due to temporary factors like strikes and weather disruptions. Even after backing out these anomalies, jobless claims increased by about 10,000 or more, which could be a sign of some softening in the job market. However, we're not seeing anything alarming enough to suggest a significant downturn in employment, but this is worth watching.
With this backdrop, what is the Fed likely to do? The futures market has, with risk corrections, priced in around four rate cuts by July of next year, implying a slow, steady path of easing. I expect four 25-basis-point cuts and two pauses over the next six meetings. The bond market seems to agree, as the 10-year Treasury yield is settling around 4.07%. I maintain my long-term view that the Fed Funds Rate will stabilize around 3.5% and the 10-year yield around 4.5%, signaling that we are moving toward a more normalized rate environment. It also suggests not rushing to extend duration maturities.
In terms of sectors, the Russell 2000’s recent outperformance is uneven. Small-cap stocks closed the week strongly on Friday, outperforming tech-heavy indices for a change. However, this move has been somewhat erratic, and there’s no clear trend suggesting a long-term shift in favor of small caps just yet. The market continues to rotate between tech and value, but there’s no systematic bias toward one over the other. This type of market action reflects the uncertainty about where we are in the economic cycle.
Looking ahead, I see opportunity if the current resilience continues. Stocks are not cheap by historical standards, but with the fear gauge elevated and investors still largely hedging their bets, we could see a sharp move higher if sentiment turns more positive. While the Fed’s gradual pace of rate cuts is not likely to spur a runaway rally, it should provide enough support to keep the market moving higher, especially if inflation continues to moderate and the labor market doesn’t show significant deterioration.
For investors, quality remains key, and while small caps are catching a bid, the fundamentals in large-cap tech continue to drive performance. However, with inflation moderating and the Fed’s easing cycle beginning, sectors like financials and industrials could benefit from a more favorable economic backdrop. Keep an eye on the earnings season, especially among banks, as early reports have been solid and could set the tone for broader market gains.
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