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When there's a strong undertow near the beach, the move is to swim sideways, traveling parallel to the shore to reach a point beyond the narrow rip current's pull.
The stock market seems to have executed such a cautious, patient maneuver. Months of bend-don't-break action had kept the S&P 500 within sight of record highs while that undertow pulled at parts of the market most exposed to higher oil prices, rising interest rates and a tiring household sector: consumer cyclicals, industrial shares and, lately, the banks.
Meantime, semiconductor stocks and most of the mega-cap tech platforms were convalescing as AI-overspending fears eroded investor conviction and compressed valuations.
Was Monday's propulsive rally, concentrated in the AI implementers of Big Tech, a sign that the market is revving to escape its summer-long stasis? Could both the "spenders" (hyperscalers) and the vendors (AI hardware providers) rally together for more than a couple of days?
Last week here I described an ambiguous setup in which the trend had held while a wall of worry built:
"The S&P 500โฒs months-long sideways churn reflects a tape that continues to rescue itself through alacritous rotation. The S&P 500 has gone nowhere since June 1, but hasn't slipped more than 3% from a record high over that span. It has spent nearly the entire time since Aug. 4 inside the range of that single day's rally to a record high. Market breadth has eroded, but that also means internal oversold conditions are building. Seasonal tendencies are challenging, though everyone knows this. Institutional positioning has moderated by most measures."
Monday's 2% burst higher in the Nasdaq Composite would seem to lend credence to the argument, voiced to us on "Closing Bell Overtime" by Goldman Sachs head of Americas execution services John Flood on Friday, that light positioning by professionals, elevated short interest in Nasdaq stocks and persistent earnings momentum skewed the risk-reward higher for the market into year-end.
Meta Platforms' launch of its Muse AI agent app and Nebius's move to raise rental rates on AI computing access seemed to spark the buying spurt in related AI stocks.
There's a tidy first-in/first-out dynamic here at work. Semiconductor stocks peaked in late June, well before the broader tape did. The Philadelphia Semiconductor Index weathered a savage 30% drawdown, has been choppily trendless for two months, then in recent days finally broke above its downtrend and surmounted the 50-day moving average.
The "pace the frontier" scare in recent weeks, full of talk of model-driven human extinction, perhaps stress-tested the tech tape sufficiently for a further rebound. It would be similar to February's "software is doomed" panic inflamed by Citrini Research's sensational scenario analysis, which hit an already-skittish sector and in fact was published closer to the low in software stocks than to their former high.
Encouraging, on its face, though not a clear assertion of revived upside momentum just yet. Monday followed Friday's quarterly options expiration, which clearly left tactical traders underexposed to a rally driven by Meta and high-beta semiconductors, leading to a mad rush for quick call-option exposure, which could fizzle just as quickly. The semi index remains 15% off its peak. Meta shares haven't made a new high in 13 months. On the New York Stock Exchange Monday, with the S&P 500 up 1.5%, there were 160 new 52-week lows and 29 fresh highs.
It remains a spotty, hot-and-cold tape, albeit one that shows consistent resilience through rotations.
The reflex sell-off after Wednesday's Federal Reserve rate hike gave the S&P 500 a momentary test of 7500, which proved a timely shakeout. But this still leaves a Fed chair who said pretty clearly that financial conditions remain too loose and suggested he might need to remove another "dose of accommodation" or two. And the Nasdaq clicking to new highs while bond yields ease and the VIX slips under 15 all make financial conditions even looser.
BCA Research lays out the implications, as its strategists see it: Either we get "a short [tightening] cycle with yields peaking within months, or an overheating economy and a bond market that settles only after equities break. Either way, the equity cushion is thin, and the market now has to earn its gains through profits rather than multiples."
I mentioned a few weeks ago that it was prudent to assume that absolute equity valuations have peaked for the foreseeable future, back when the S&P 500 traded at 23-times forward earnings 11 months ago.
The market has been trying to make its peace with the degree to which the second quarter reflected an all-in apex of bullish atmospherics. Bank of America and Goldman Sachs last week said this quarter would see deceleration in trading and investment banking. Retail risk-taking crested with the SpaceX IPO in late June. Momentum, leverage and crowding in the AI-buildout trade will not likely return to the extremes of June, which preceded the spectacular liquidation of the Situational Awareness hedge fund.
A maturing bull market about to enter its fifth year could simply be reloading its reliance on its narrow, familiar leadership and preparing for another earnings season that will feature gaudy profit growth colliding with an investing crowd that already expects nothing less.
Market Temperature Gauge
This indicator from John Kolovos of Macro Risk Advisors uses several data points to reflect both what investors are saying and what they are doing.
"While we have not seen proper capitulation via a correlated sell-off, bullish sentiment continues to moderate after this summer's speculative peak, reducing headwinds. Anecdotally, much skepticism remains about this bull market.," said Kolovos of the latest reading.
Around the Street
The profile last week of Meta Platforms founder and CEO Mark Zuckerberg in Colossus magazine definitely lives up to the publication's name. At some 15,000 words, it is deep and dense. Much of the piece is simply flaunting the access (detailed descriptions of the scene as the writer, Jeremy Stern, waits to talk to Mark, or his parents, his wife) and clears his throat.
But it's worth reading for the sweeping perspective on Meta's history, its hero-to-villain role in tech, Zuckerberg's serial strategic pivots and this tidy encapsulation on the bull case for Meta's approach to AI, which the writer says he distilled from a canvas of Meta outsiders:
"AI is not, in fact, God. Instead, it does math and solves a limited set of problems humans face, and is otherwise simply useful and cool. Anthropic, and to a lesser extent OpenAI, have trouble ever accepting this fact. Zuckerberg does not. He has not spent a decade comparing his company to the Manhattan Project, and thus he is not above pushing the frontier of AI to help people book airline tickets, make dinner reservations, and edit photos. He will use it to drive down the cost of serving his users to zero, and to drive up his revenue by improving ads. He will use cash from the ad business โ and his ownership of data centers, chips, and other infrastructure that Anthropic and OpenAI have to pay to rent โ to undercut them on price. The potential install base for his AI is 3.6 billion people, who don't care whether a given model is six months behind the frontier."
Market on Close
Gen X is the first rerun generation, the initial cohort of the modern media age that had open access to decades of a back catalog consisting of the dawning decades of TV shows and rock music.
Our Boomer (and older) parents feasted on television but there was no accumulated archive of old shows in syndication, of the kind Gen X consumed unsupervised after school and all weekend. Rock 'n roll was being created and developed in their youth, before the later waves of imitation and iteration.
We immediately saw "WKRP in Cincinnati" as a spawn of "Mary Tyler Moore Show" and the progenitor of "News Radio." A show about the low-stakes exploits of a widower and his kids? "Full House" was merely the latest in a line running from "My Three Sons" and, for that matter, "Bonanza." Nirvana were innovators, but also summoners of '70s punk and the Kinks from the '60s.
This layering of generations of content made us highly sensitive to threads of influence and imitation, which in turn meant we were obsessed about locating stuff that truly qualified as original.
The investors among this small and scorned generation, now aged 45-61, are watching markets play out on their screens and constantly see the plot parallels with past cycles. It's a forgone conclusion, to some, that the AI bull market will be a rerun of the '90s Internet boom and bust. Or the borrowing rush to build AI is an early outbreak of a credit contagion of the sort that broke containment in 2008. How many times will we see the double wave of surging inflation from the 1970s plotted against the post-2020 curves?
Investors have always tried to map economic and market patterns from the past, of course. I was covering Wall Street in the '90s and there was a fair bit of concerned comparison to the Nifty Fifty era of narrow growth-stock leadership or the overheated tech speculation of the late-1960s. But it was more esoteric, less pervasive.
I'm as guilty as anyone of invoking past cycles to inform the present. I called back to the 1999 tech/Fed echoes just last week. But there are traps in believing too heavily in how the script of former episodes is due to repeat.
The fact that tech-stock valuations never approached the heights of 1999-2000 because earnings underneath them have grown so fast is encouraging.
Credit markets often raise an early warning of internal economic rot, but must they always?
The synchronous inflation waves look scary. But today policy makers have the benefit of knowing the prior pattern from 50 years ago, which was not the case for the policy makers of 50 years ago.
But don't assume we haven't got to the end of a past cyclical extreme "yet." We may never. So a market peak could occur before getting to a climax that reminds everyone of the big one from a quarter-century ago. On the other hand, some extremes from the '90s proved no barrier for the present bull.
I'm reminded of this dynamic in observing this chart of stock-market concentration.
When the collective weight of the ten largest stocks began to rise toward the year-2000 peak in the pandemic momentum market of 2020, the chart was everywhere. The warning was implicit: We are at some maximum extent of top-heaviness, bad things are likely to follow for stocks.
There wasn't a bear market until 2022, which did little to reverse the mega-cap dominance, and now here we are, the tape again reliant on the giants.
Payback might be extracted at some point, for sure. But until then it's worth remembering that the "Happy Days" episode in which Fonzie "jumped the shark" on water skis โ a term that now defines a phenomenon that's overshot toward absurdity โ happened in season five out of a total of 11.
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