A robust rally in U.S. stocks faces challenges from economic data, political uncertainty, and a corporate earnings test in the coming weeks, as investors navigate one of the most volatile periods of the year for equity markets.
The benchmark S&P 500 reached its first all-time high in two months this week following a significant 50-basis point rate cut by the Federal Reserve, marking the commencement of the first U.S. monetary easing cycle since 2020.
The index has risen by 0.8% so far in September, historically the weakest month for stocks, and has gained 19% year-to-date. However, strategists caution that the uncertain period could extend until the November 5 election, making the S&P 500 susceptible to market fluctuations.
“We’re entering that period where seasonality has been a bit less favorable,” said Angelo Kourkafas, senior investment strategist at Edward Jones. “Despite the excitement about the start of the new rate-cutting cycle, it could still be a bumpy road ahead.”
Historically, the second half of September is the weakest two-week period of the year for the S&P 500, according to a Ned Davis Research analysis of data since 1950. Additionally, CFRA data shows that the index has an average decline of 0.45% in October during presidential election years. Volatility tends to increase in October of election years, with the Cboe Market Volatility index rising to an average level of 25 at the start of the month, compared to its long-term average of 19.2, according to Edward Jones’ analysis of the past eight presidential election years. The VIX recently stood at 16.4. The market could be particularly sensitive to this year’s close election between Republican Donald Trump and Democrat Kamala Harris, with recent polls indicating a virtually tied race.
“Unless the data deteriorates considerably, we think U.S. elections will start to be more at the forefront,” UBS equity derivative strategists noted.
Investors are also monitoring data to support expectations of a “soft landing” for the economy, where inflation moderates without significantly impairing growth. Stocks generally perform better after the start of rate cuts in such scenarios rather than during recessions.
The upcoming week includes reports on manufacturing, consumer confidence, durable goods, and the personal consumption expenditures price index, a key inflation metric.
Particular attention will be on employment data after Fed Chair Jerome Powell announced that the Federal Reserve wanted to stay ahead of any weakening in the job market while unveiling the rate cut this week. The closely-watched monthly U.S. jobs report is due on October 4.
“We’re going to have hyper-focus on anything that speaks to the strength of the labor force,” stated Art Hogan, chief market strategist at B Riley Wealth.
Meanwhile, the rally in stocks has increased valuations. The S&P 500’s price-to-earnings ratio now stands at 21.4 times expected 12-month earnings, significantly above its long-term average of 15.7, according to LSEG Datastream.
With limited scope for further valuation increases, investors indicate that stronger corporate earnings are now essential to support stock gains.
The third-quarter reporting season commences next month. S&P 500 earnings for the period are anticipated to have risen by 5.4% from the previous year and are expected to surge nearly 13% in the fourth quarter, according to LSEG IBES.
FedEx shares plummeted on Friday after the delivery giant reported a significant quarterly profit decline and lowered its full-year revenue forecast.
“Extended multiples put pressure on macro data and fundamentals to support S&P 500 prices,” Scott Chronert, head of U.S. equity strategy at Citi, highlighted in a report.