U.S. stocks have navigated one of the toughest periods of the year. Investors expect the market to continue rising in October, despite a contentious presidential campaign, unpredictable Federal Reserve policies, and lingering recession fears.
According to data compiled by Bloomberg, the S&P 500 Index rose for the third consecutive week and gained 5.1% in the third quarter, marking its best performance since 1997. The benchmark index's market value surpassed $50 trillion for the first time, despite September historically being a poor month for stocks.
These gains occurred largely without the help of large tech companies, which have traditionally driven U.S. stock market rallies. The tech-heavy Nasdaq 100 Index saw only a 1.7% increase in the third quarter, compared to nearly 9% for the equal-weighted S&P 500 Index. This broad-based rally has been mainly driven by hopes that the Federal Reserve will achieve a soft landing by cutting interest rates, which began earlier this month.
The question now is whether this rally will continue through next month and into the year-end. Positioning data suggests that few traders and investors see a reason to hedge after adopting a cautious stance early in the summer.
Sanctuary Wealth’s Chief Investment Strategist, Mary Ann Bartels, is optimistic about stocks. She predicts that the S&P 500 Index will reach 6,000 points by the end of 2024, about a 4.6% increase from last Friday's closing price. Bartels believes that large tech companies and chip stocks will lead the market higher in the fourth quarter. Her sentiment is supported by hedge fund trading data from Goldman Sachs' prime brokerage division, which shows three times as many bets on rising tech stocks compared to those betting on a decline.
Economic risks persist, though. The Federal Reserve is attempting to achieve a soft landing following a period of rapid inflation and aggressive rate hikes, a rare feat to accomplish. According to data from the New York Fed, the likelihood of a recession in the next 12 months remains high. The upcoming jobs report on Friday will be crucial, as it will provide more indications about the economy and the expected rate cuts at the Fed's next meeting.
Despite these risks, market sentiment remains broadly positive, with expectations of stable economic growth. The Atlanta Fed’s GDPNow model shows a 3.1% annual growth rate for the third quarter, higher than the second quarter’s 3% growth rate. Option positions also reflect optimism; the five-day moving average of the put/call ratio for stocks is close to 0.51, the lowest since July 2023.
Even as recession fears led to this year's worst selloff in the first week of September, the stock market rebound has defied skeptics. This boom has occurred without substantial support from companies like Nvidia (NVDA), a key player in the AI boom that drove the bull market over the past two years but stalled this summer.
The broadening rally beyond large tech companies has been a savior for investors. According to Bloomberg data, the equal-weighted S&P 500 Index is set to outperform the market-cap-weighted version in the third quarter, marking the largest gap since the last quarter of 2022.
This market breadth expansion is why Evercore ISI's Head of Technical Analysis, Rich Ross, is bullish on chip stocks for the fourth quarter, especially after Micron Technology's (MU, Financial) surprisingly strong sales forecast. He expects the $253 billion VanEck Semiconductor ETF (SMH) to rise another 20% by the year's end, following a 45% increase in the first three quarters. This ETF includes leading chip companies like Nvidia (NVDA), Micron (MU), and Broadcom (AVGO).
Richard Bernstein Advisors' Deputy Chief Investment Officer, Dan Suzuki, states that the tech stock rebound should support the overall market uptrend. The firm is increasing exposure to small-cap stocks, as well as industrial, materials, and energy sectors. However, Suzuki cautions against sacrificing market breadth, as it would not be a healthy sign.
With the S&P 500 Index at an all-time high and a lack of strong catalysts like key economic data or earnings releases, short-term options are expensive. However, longer-term contracts are pricing in a range of events that could shake the market. Over the next six weeks, investors will grapple with two critical jobs reports, earnings from some of America’s largest companies, the U.S. presidential election on November 5, and the next Fed rate decision on November 7.
Traders are divided on the scale of the next rate cut, with the swap market increasingly pricing in a 50-basis-point cut. Wilmington Trust's Chief Investment Officer, Tony Roth, warns that cutting rates by only 25 basis points may increase the risk of a recession next year, given the economic trajectory. Still, he believes the S&P 500 Index will reach 6,000 points by year's end.
