Stock market rally has fueled debate on what happens next

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The stock market is in turmoil, and investors face a tricky question: Will the rally last?

The S&P 500 index is on track for its fifth consecutive week of gains, its longest winning streak since its 2021 decline.

This is a remarkable run considering the background. After a series of interest rate hikes by the Federal Reserve to control historically high inflation, many investors feared the Fed’s tougher actions would push the country into a more severe recession. But the S&P 500 is up about 17 percent from a year ago, up nearly 24 percent from its October low, and just 8 percent away from a record high.

Some investors have also called this run the beginning of a bull market, or a period of exuberance, which by definition is marked by a 20 percent increase from a recent low. Once stocks cross this threshold, bulls say, they keep climbing.

Others aren’t convinced and warn that the recent rise could be a bear market rally — a short-term stretch of optimism within a longer-term trend.

Bulls base their argument on signs of a resilient economy, easing inflation and the Fed nearing the end of its interest rate hike cycle. If the economy has so far survived the onslaught of rising inflation and higher interest rates, it will probably continue.

unemployment is low and consumer spending, which has helped corporate profits jump higher than expected. Inflation has eased, and the Fed elected at its meeting this week to leave rates unchanged for the first time in more than a year.

Bank of America analysts recently declared the bear market “officially over,” noting that, historically, after rising 20 percent from the low point, the S&P 500 continues to rise over the next 12 months. . According to data going back to the 1950s, on average the index has grown by 19 percent over that period.

Bank of America analysts said the fear of missing out on bumper returns could also draw investors back into the market, as they go on a buying spree.

Analysts at Goldman Sachs last week raised their year-end forecast for the S&P 500, predicting the index would rise 5 percent from last Friday’s level. The index was already up 3 per cent this week till the end of Thursday.

A general note of caution about the current rally is that it is largely the result of some big tech companies being higher, such as the 200 percent increase in chip maker Nvidia’s share price. The average stock in the S&P 500 is up just 7 percent this year, about half as much as the index as a whole.

However, a broader rally is starting to take hold. The average stock in the S&P barely moved until early June, but has posted strong gains since then. The Russell 2000 index, which tracks the performance of smaller companies most exposed to the ups and downs of the domestic economy, jumped 8 percent in June alone.

Bears’ focus is on hurdles ahead: inflation has eased but remains high and cracks are visible in some key segments of the market.

The collapse of three medium-sized banks in the spring has prompted other lenders to become more cautious, restrict lending and reduce the availability of cash to companies and consumers.

When it comes to banks, “I think there are more weak links out there,” said Cathy Jones, chief fixed income strategist at the Schwab Center for Financial Research.

Corporate bankruptcies have risen, and some investors fear it is only the beginning of deeper trouble, as loans with low interest rates come due and borrowers face much higher costs to refinance. This is a particular concern for the commercial real estate market.

The slow move toward greater economic turmoil is a result of the extraordinary amount of stimulus that was built up through the pandemic, but that too is starting to wane. Consumers’ savings have started drying up and credit card balances have piled up. “It’s going to take time to work my way through this,” Ms Jones said.

Bulls believe the Fed is close to ending its war on inflation, but bears fear the final battle has yet to begin. Inflation is still running at more than double the Fed’s target rate of 2 percent and could remain extremely high. This could cause the Fed to raise rates higher and, crucially, leave them higher for longer, further squeezing the economy.

This week, the stock market was shaken when Fed officials unexpectedly predicted two more quarter-point rate hikes by the end of the year. But such predictions have been wrong in the past; Investors quickly shrugged them off and the shares started rallying again.

Jorge Goncalves, head of US macro strategy at MUFG Securities, thinks this is a mistake.

“The signaling that the Fed is doing, and the fact that they are committed to a high-rate regime, means that it is hard to fathom that we will not see other risks unfold and break down along the way,” he said. .

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