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Warsh’s Tasks
The AI boom is fueling the Fed’s hawkishness, as Ed and Elias agree it should, since it’s also fueling inflation currently. Yet Fed Chair Warsh asserted at his confirmation hearing that AI is a disinflationary force. They agree with that as well: It is disinflationary over the long term, which is the crux of our Roaring 2020s economic thesis; but paradoxically, AI is escalating inflation now as rapid demand spurs rapid infrastructure buildout. Once AI adoption is widespread, however, the productivity growth it sparks will propagate disinflationary economic growth. … Also: A look at who will lead Warsh’s five new task forces. … And: Consumers continue to do what they do best.
US MARKET CALL: Great Expectations
The S&P 500 has been meandering around 7,500 since mid-May. Earnings should continue to drive the stock market higher. However, investors may be fretting that expectations for the upcoming earnings reporting season are so high that if they aren't exceeded, the market might swoon again in July as it did in June. If so, dip buyers are likely to limit the downside. We still expect the S&P 500 to hit 8,250 by year-end. Consider the following: (1) Earnings. Fabulous earnings momentum (FEMO) moderated a bit heading into the Q2-2026 earnings season. S&P 500 companies’ aggregate forward earnings per share rose to yet another record high last week as the consensus 2027 EPS estimate edged higher, while the 2026 estimate dipped (chart). Forward earnings will converge with the 2027 estimate by the end of this year. That estimate is likely to continue to rise. If it reaches $412.50 by the end of this year, a 20.0 forward P/E would imply an S&P 500 level of 8,250. It could also get there with $400 earnings and a 20.6 multiple. Analysts trimmed their aggregate Q2 earnings expectations slightly last week, but the estimate remains very strong, representing 21.6% y/y growth on an apples-to-oranges basis (chart). Q3 and Q4 are currently expected to be just as strong. On a pro forma basis, which compares current S&P 500 index members to themselves a year earlier (apples-to-apples), expected Q2 earnings growth is even higher at 23.7% (chart). The Energy and Information Technology sectors are leading the way higher, while Health Care continues to sputter. It's hard to imagine any upside surprises from here. That could be an issue for the stock market over the rest of this month and early August. But we would expect dip buyers to step in if Q2 earnings merely match rather than exceed expectations. (2) Breadth. Breadth remains healthy, as revenue growth is broadening into earnings gains beyond the S&P 500. S&P 400 and S&P 600 forward earnings are climbing to new record highs along with the S&P 500 forward earnings (chart). The S&P 500 companies' collective forward profit margin rose to a record 16.1% last week (chart). The forward profit margins of the S&P 400 and S&P 600 are lower, but also closing in on their previous record highs. The Magnificent-7 has clawed back some ground in recent weeks after lagging most of this year, though the group is still up just 2.6% ytd versus 14.3% for the S&P 500 excluding the Mag-7 and 10.7% for the overall S&P 500 (chart). Market concentration, measured by the ratio of the S&P 100 to the S&P 500, is down to 0.49 and remains well below its dot-com-era peak of 0.55 (chart). (3) Rotation. S&P 500 Value is pushing to record highs and could keep climbing as earnings season unfolds (chart). The Q2 earnings expectations for the S&P 500 Growth companies might be too exuberant. If earnings disappoint, then money might rotate out of crowded Growth names to Financials and other Value sectors. Another sign of a broadening bull market in stocks is the Russell 2000’s breakout to new highs since bottoming this year on March 30 (chart). (4) Outperformers. Employment-related stocks continue to perform well, in line with a firming labor market, led by ADP. June's weaker-than-expected payrolls gain didn't weigh on these stocks (chart). Technology is holding its own despite persistent chatter about a correction. Semiconductors have pulled back from their highs, and we'd view further weakness there as a buying opportunity (chart). Memory chip stocks remain in a long-term uptrend but have pulled back sharply from recent peaks, with Micron and SanDisk both down over 15% from their all-time highs (chart). Health Care is attracting buyers, particularly for Biotechnology and Pharmaceuticals stocks. Both are breaking out to fresh highs (chart). Financials look well positioned heading into what should be a favorable earnings season, with broker-dealer, capital markets, and bank ETFs all trending higher (chart). Loan demand and investment banking are robust. Banks are likely to reduce their loan-loss provisions to boost earnings. (5) Credit. Private credit ETFs remain weak (chart). However, we doubt that they are signaling an economy-wide credit crunch. Indeed, commercial bank loans continue to expand (chart). The Invesco KBW Bank ETF is at a record high. Also encouraging to see is that the stock prices of consumer credit companies have been moving higher recently (chart). Margin debt has climbed alongside the market to a record high, but elevated margin debt has never been a reliable timing signal for bear markets (chart).
ECONOMIC WEEK AHEAD: July 13-17
The S&P 500 closed Friday at 7,575.39, up 1.2% on the week, while the Nasdaq rose 1.7% last week. The dominant story was a sharp re-escalation of the war between the US and Iran. Trump declared the ceasefire "over" on Wednesday after Iranian strikes on commercial vessels in the Strait of Hormuz, and the US carried out fresh airstrikes Wednesday night and again on Thursday, with Iran retaliating against US-allied Gulf states. The price of Brent crude oil spiked as high as $78.19 per barrel before easing back toward $76.01 by Friday (chart). Semiconductor stocks whipsawed all week. Samsung's record 19-fold y/y profit jump last quarter, reported on Tuesday, still missed elevated Wall Street expectations. Micron's $250 billion US investment pledge sparked a sharp Thursday rebound. SK Hynix made a $26.5 billion Nasdaq debut on Friday, the largest-ever US listing by a foreign company; its stock rose 13% that day. The calendar is unusually crowded this week. Q2 bank earnings kick off Tuesday with JPMorgan, Bank of America, Citigroup, and Wells Fargo. Fedspeak is constant: Waller (Mon), Goolsbee (Tue), Williams and Musalem (Wed), Logan and Jefferson (Thu) all appear, while new Fed Chair Kevin Warsh delivers his first Humphrey-Hawkins testimony on Tuesday and Wednesday. All this happens against the backdrop of June's FOMC minutes, which showed nine of 18 officials now penciling in at least one Fed rate hike this year. Internationally, Tuesday brings a full slate out of Beijing (Q2 GDP, industrial production, retail sales, and the urban unemployment rate), with the consensus looking for GDP growth to slow to around 4.4%-4.7% y/y from Q1's 5.0%, while the Bank of Canada meets Wednesday and is widely expected to hold at 2.25% for a sixth straight meeting. With that said, here are the key economic releases most likely to shape investors' thinking this week: (1) Inflation. June's CPI (Tue) follows a hot May print, with headline and core inflation rates at 4.2% y/y and 2.9% (chart). The Cleveland Fed's Inflation Nowcasting projects June's comparable rates at 3.9% and 2.9%. The projected m/m rates are 0.0% and 0.2%. June's PPI (Wed) follows an elevated May reading of 6.5% y/y, the fastest pace since November 2022 (chart). The rapid drop in oil prices last month should show up in lower PPI inflation. (2) Retail Sales. June's report (Thu) follows a strong May, when advance sales rose 0.9% m/m and 6.9% y/y (chart). The weekly Redbook same-store sales index has been running even hotter, rising to 10.1% y/y for the week of July 3, a multi-year high, confirming that consumer spending has stayed robust even as headline jobs growth has slowed recently. (3) Employment. Initial unemployment insurance claims for the week of July 4 fell to 215,000, with the 4-week average trending down to 218,750, both still consistent with low layoffs. (4) Manufacturing. July's regional business surveys conducted by the NY (Wed) and Philly (Thu) Feds should confirm that business activity is still expanding (chart). (5) Industrial Production. June's industrial production (Fri) should show a modest uptick, though manufacturing aggregate weekly hours edged down during the month (chart).
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