We are in the heart of summer heat. With this comes a tough time for the equity markets around the globe. The US markets seem to once again be taking the lead as we progress through second quarter earnings season. Is this because of simply because of the good genes, possessed by US economic principals or good jeans worn by Ms. Sweeney of American Eagle? I believe that it is a function of continued US Exceptionalism and corporate adaptability.
The S&P 500’s momentum off the April lows is the strongest since 2020. As is normally the case after such an aggressive advance, this can lead to consistent short-term choppiness followed by further gains. Wednesday’s GDP report had something for everyone. Barron’s headline was, “GDP grows 3% in the second quarter, a bigger rebound than expected.” The New York Times went with, “U.S. economic growth softened in the first half of the year, as tariffs weighed on consumers and businesses.” Both were accurate. Real GDP grew a stronger-than-expected 3.0%, while real final sales to domestic purchasers slowed to 1.1%. Similarly, the Fed did not lower its target rates, as expected by some, but kept the door open for rate cuts later in the year. The data did little to alter our objective indicators or our outlook. As we discussed last week, our base case is that the economy muddles through, generating enough activity to avoid recession but far from strong enough to force the Fed to raise rates.
While the economic indicators, as a backdrop, are giving mixed messages, the technical evidence is decisively bullish. Of course, it is not perfect. Stocks are overbought and sentiment is optimistic, heading into a seasonally weak time of the year. Despite the blemishes, the U.S. stock market is acting like it normally does coming off a major low.
- the breadth thrusts after the April 21 retest indicated an uptrend was underway.
- leadership was consistent with previous recoveries after large corrections.
- long-term breadth readings began to reach levels that confirmed uptrends have been sustainable in previous cycles.
Last Monday, July 28th, marked 75 trading days since the April 8 low. The S&P 500 surged 28%, the biggest 75-day gain since July 2020. Gains of 25% or more over 75 days are rare. This case marked the 14th time since 1928 and seventh since WWII (chart below). The post-war list reads like a Who’s Who of major market lows. Note: we screened out repeat signals for six months, and the 25% threshold was first met on 7/24/2025. Returns have been mixed over the short term, reflecting an overbought condition after such powerful gains. Intermediate-term gains have been well above average. Post war, the S&P 500 has been up every time six and 12 months later, with median gains of 13.3% and 21.6%, respectively.
Besides the economy showing unbridled consistency and manageable growth, earnings so far have continued to be impressive. 12% earnings growth year over year is very solid.
As a result, strategists across the board are raising price targets on S&P 500 index after dramatic decline in the Tariff Tussle. It is really quite frustrating that they all lowered their respective price targets when the tariffs were announced and they are all now clamoring to raise them now that the markets digested this uncommon political changeup:
Looking at earnings growth going back to 2019, just prior the COVID debacle, it is clear why US markets have continued to show outperformance. See the progression of earnings below comparing the US market’s CAGR (compound annual growth rate) with that of the major countries of the world:
Strong Rallies Often Pause 3 to 4 Months Off the Low—then Head Much Higher
There are never any sure things in the market, but everything from big-picture sentiment (still depressed) to the unusual strength in May-June (a pattern that, historically, has only been seen early in long-lasting uptrends) to the refusal of the major indexes to give up any ground of late all portend good things down the road.
However, while we offer no predictions, history also tells us that strong market rallies off of major lows often run into some resistance three to four months after the low—sometimes that can take the form of a big shakeout, and sometimes it means a few weeks of rest and correction, but the vast majority of the time things do get a bit tricky in that time frame. I have taken the time to illustrate these cases dating back to the late 1990’s to give texture to what we could expect in the short run. Now, it must remembered that this tends not to be a beginning to the end, but rather a pause that has historically refreshed the bull’s energy.
The recovery after the 2009 debacle is a classic example: Following a bottom in early March, the S&P rallied hugely into early/mid-June before pulling back for a total of three and a half weeks—and then began its next leg up.
The 2003 example was very similar, with the market emerging from its three-year bear market (the long bursting of the internet bubble) in March of that year and having an excellent run into mid-June—but that was followed by a seven-week sideways consolidation before the rally resumed.
The summer/fall plunge in 1998, due to the Russian ruble crisis and the blowup of Long-Term Capital Management (a massive hedge fund at the time), got going after a bottom in October of that year, but once again, three months or so after the low marked a digestion phase, which in this case became a two-month, up-and-down rest period.
Last but not least is 2020, which showed action somewhat similar to this year’s rapid plunge-and-recovery pattern. This one was a bit different, as the market saw a shakeout (down 5.9% in one day!) and shorter consolidation (about three weeks in total) that began a bit sooner (two and a half months from the low) than the other examples, but the general vibe is the same.
Now, do these historical precedents guarantee that the market is set to hit some resistance in the near future? Of course not. In fact, given that we’re now three and a half months from the April panic low, the longer the current market goes without a pullback it makes you wonder if something larger (in a bullish way) is going on. Remember, it’s the unusual action (persistent strength or weakness) that often reveals a market’s true character.
Having said that, when you combine the time frame of this rally with the stalling out seen in many growth areas, this is one reason we’ve cut back on new buying and pulled in our horns of late—it would be normal and natural for the market and growth stocks to hit a few air pockets here, with some names cracking while stronger ones hold up and fresh names emerge. Our current positions gives us some cushion if that happens—and, just as important, some buying power if and as some earnings winners appear in the weeks ahead. The other catalyst that could determine the next major move for the markets could be an interest rate cut. In looking at interest rate cuts of late, this is what the S&P 500 tends to do:
Note that defensive sectors tend to have difficulty, yet the overall index has historically benefited from a decrease in the cost of capital.
Key Takeaways
- One-year and four-year cycles are peaking; August-September is the worst two-month period.
- Sentiment composites indicate widespread complacency.
- If correction relieves optimism, the Fab Five Model would indicate a buying opportunity or the start of a bigger decline.
Of course, these patterns should not be taken too literally. And they can look terribly misleading when the market reacts to unexpected news, such as the magnitude of Trump’s “Liberation Day” tariffs. The cycles showed equities heading for new highs that month. But what they do indicate right now is that the seasonal and cyclical tailwinds are turning into headwinds. The calendar alone is discouraging, as indicated by the ACWI’s mean two-month returns for August-September since 1987. As shown in the chart below, no other two-month span has been negative.
If the current earnings data live up to the bullish expectations reflected by the sentiment data, then equities may be able to withstand the headwinds and the optimism will linger. But if they don’t, will the response lead to a positive or negative outcome? In a positive outcome, a correction would relieve the excessive optimism to such an extent that the Sentiment Component would rise to neutral, offsetting whatever indicator deterioration would be evident in the Tape Component.
With Monetary and earnings components also holding up and the overall model reading no worse than neutral, the improved sentiment could indicate a buying opportunity ahead of rallying into year-end.
If the optimism is relieved with a negative outcome, then the Tape Component would drop toward bearish readings, perhaps accompanied by deterioration in one or both of the other two components and a bearish reading on the overall model.
So, if it goes down, where does it go down to? This is the ultimate question that people look for in their respective crystal balls. According to Andrew Adams of Saut Research, it is more of a “mattress low” as illustrated by the green bar below on the S&P 500 chart. I say Mattress Low because the exact price level is impossible to predict, but a possible range is more predictable. Given earnings growth, Tariff agreements, and many other economic indicators, this could be a reasonable level for the digestion of this massive and sharp move up out of the April lows. This could be somewhere between 5.950 and the low 6,000’s:
In closing, I got this on Thursday of last week from Gil Morales of The Owl Market Feed,
"This morning, we see that price levels continue to rise after the June Core PCE Prices Index printed 0.3% vs. expectations of 0.3%. Year-over-Year PCE inflation rose 2.7% vs. expectations of 2.6%. So, riddle me this Batman, if inflation remains well above the Fed’s arbitrary 2.0% goal, why should we expect them to lower rates? Just because all of the Trumpkins, from the White House to Congress talk out of both sides of their mouth by lauding a strong economy while insisting the Fed lower rate? One might argue, ever so succinctly, WTF?
Yesterday, Fed Governors Christopher Waller and Michelle Bowman voted against the decision to keep rates unchanged at 4.25% to 4.5%, advocating for a quarter-point rate cut instead. This marked the first time since 1993 that two Fed governors dissented on a monetary policy decision.
So, what do they see? A slowing economy? In my view, that would certainly provide a clear rationale for a rate cut, but when advanced Q2 GDP prints at 3% (some will argue that this is frontloaded as a result of impending tariffs, which is a valid argument, as I see it) that is perhaps hard to do, at least for now. And, of course, all of this assumes that you trust government data.
I would remind everyone that during the Biden Administration, The Bureau of Labor Statistics revised their positive jobs growth numbers downward by 818,000 for the 12-month period from April 2023 to March 2024. It is also useful to understand that since Reagan was President, the government has revised their methodology for calculating CPI somewhere north of eight times since 1980.
So, if we use the same methodology as they used in 1990, we get CPI inflation that is north of 7%. As I told one member earlier today, you can slice a cat as many ways as you want, but it is still a cat. The bottom line is that price levels continue to rise, and the Fed may soon be faced with the unsavory task of ignoring inflation while addressing a weakening economy (if Waller and Bowman are to be believed) or vice versa in a potentially stagflationary environment.”
- Ken South, Tower 68 Financial Advisors, Newport Beach
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