Executive Summary
Last week, the equity market staged a broad rebound, recovering a portion of November’s losses. The rally was sparked by commentary from the Federal Reserve suggesting a December rate cut is back on the table. Major equity indices rallied sharply, with gains spread across sectors and factors. Small-cap stocks were the standout performers, signaling a rotation into interest-rate-sensitive stocks stand to benefit the most from a December rate cut. The VIX market volatility index fell to a 1-month low after its recent spike, reflecting renewed confidence in the Fed’s pivot. The shift in the policy outlook drove Treasury yields lower across the yield curve, with the short end seeing the steepest decline. Falling yields pushed bond prices higher, with longer-maturity Treasury and corporate bonds outperforming. Gold traded higher, while oil continued to trade lower.
Key Takeaways
Market Expectations for a December Rate Cut Continue to Swing
Investor expectations for a Federal Reserve rate cut in December jumped last week after new data showed rising unemployment and a rise in the number of continued unemployment claims. Fed officials have expressed concern about a cooling labor market, but there’s uncertainty about the path forward. The Fed is working with outdated data due to the recent government shutdown, and the October meeting minutes reveal significant internal disagreements. Why it matters: The market expects three to four rate cuts by the end of 2026, starting next month, but Fed policy is far from settled.
Stocks Rebound on Renewed Rate Cut Hopes
After trading lower for the first three weeks of November, the stock market rebounded strongly as hopes for a December rate cut returned. Investors had been cautious due to falling rate cut odds and questions around AI spending, but a shift in Fed commentary reignited optimism. Why it matters: The December Fed meeting has become the market’s next major catalyst, with sentiment swinging in response to changing rate-cut expectations.
Investors Are Scrutinizing the AI Sector More Closely
There’s a sharp divergence in the performance of AI stocks. The key distinction is how companies are financing their capital expenditures, particularly those relying on large, debt-funded infrastructure spending plans. Oracle serves as an example, with its stock down more than -40% from its September peak after raising $18 billion in debt to support its AI expansion. Why it matters: While demand for AI infrastructure remains strong, investors are now focused on whether these massive capital outlays will deliver tangible returns. Companies funding large-scale projects with aggressive debt are facing increased pressure to justify their spending.
Solid Q3 Earnings Boost Market Confidence
Earnings results for the third quarter have been much stronger than expected. Companies are reporting solid profit growth, with most beating estimates and showing healthy margins. Why it matters: Despite economic uncertainty, corporate fundamentals remain solid. The strong Q3 earnings season has boosted market sentiment and helped justify the stock market’s elevated valuation.
The Economic Data Backlog Starts to Clear
With the government shutdown over, the backlog of economic data is slowly being cleared. The initial data releases are mixed: consumer spending has slowed, producer prices rose more than expected, but business investment continues to improve. Why it matters: The data provides insight into the economy, but it comes with a significant delay. It will take time to get a timely and accurate picture of current conditions.
Equities
The S&P 500 returned +3.7% for the week as stocks bounced back from the previous week’s volatility amid increased expectations for further rate cuts from the Fed. AI-related tech stocks lead the recovery. Mid cap (+3.7%) and small cap (+5.5%) stocks also staged a recovery. All sectors in the S&P 500 had positive returns; communication services (+5.9%) and consumer discretionary (+5.3%) were the best performing. EAFE markets returned +3.2% with strong gains in Europe (+3.4%), while EM markets returned +2.5% with gains in Brazil (+4.8%) and Korea (+3.0%).
From a valuation perspective, the S&P 500 and EM trade at or above +1 standard deviation based on historical forward P/E ratios, with the S&P 500 at +1.9 and EM at +1.1. For the next 12 months, EPS growth for S&P 500 is expected to be 10.8% (vs. 6.9% annualized over the last 20 years). For the next 12 months, EPS growth for NASDAQ is expected to be 17.2% (vs. 10.7% annualized over the last 20 years). Equities across markets caps in the U.S., and in non-U.S. developed and emerging markets, trade at or above their 20-year averages based on forward P/E ratios.
Fixed Income
Investment grade fixed income sectors had positive returns as rates fell across the curve. Municipals returned +0.2%, US AGG returned +0.4% and US IG returned +0.7%. HY bonds returned +0.8% as spreads compressed 32bps while bank loans returned +0.2%. EM debt returned +0.4% even as the U.S. dollar fell 0.7%.
Rates
Rates fell across the curve as traders raised the odds of a December rate cut. The recession-watch 3M-10Y spread compressed 2bps to +20. The 2Y-10Y spread compressed 3bps to +52. Rates fell in other developed markets, except Japan. The BTP-Bund spread is at 0.71%. 5-year breakeven inflation expectations fell 1bp to 2.32% (vs. low of 1.88% on Sept 10, 2024); 10-year breakeven inflation expectations fell 2bps to 2.23% (vs. recent low of 2.03% on Sept 10, 2024); the 10Y real yield fell 4bps to 1.76%. The market now prices a 100% probability of an additional rate cut in 2025 vs the Fed’s guidance of one cut. At year-end 2025, the market expects the Fed Funds rate to be 3.65% vs. the Fed’s guidance of 3.5%-3.75%. For 2026, the market expects a further 2 to 3 cuts vs. the Fed’s guidance of 1 cut.
Currencies/Commodities
The dollar index fell 0.7%. The commodities complex rose 1.7% as energy prices rose 0.4% for the week. Brent prices rose 1.0% to $63/bbl; U.S. natural gas prices rose 5.9% while European gas fell 3.6%, both related to weather fluctuations.
Market monitors
Volatility fell for equities and for bonds (VIX = 16, MOVE = 69); the 10-year average for each is VIX=19, MOVE = 80. Market sentiment (at midweek) remained at -11 as increased volatility has spooked investors.
Weekly Commentary
Markets Rebound as Fed Signals December Rate Cut
Stuart Katz
Executive Summary
Last week, the equity market staged a broad rebound, recovering a portion of November’s losses. The rally was sparked by commentary from the Federal Reserve suggesting a December rate cut is back on the table. Major equity indices rallied sharply, with gains spread across sectors and factors. Small-cap stocks were the standout performers, signaling a rotation into interest-rate-sensitive stocks stand to benefit the most from a December rate cut. The VIX market volatility index fell to a 1-month low after its recent spike, reflecting renewed confidence in the Fed’s pivot. The shift in the policy outlook drove Treasury yields lower across the yield curve, with the short end seeing the steepest decline. Falling yields pushed bond prices higher, with longer-maturity Treasury and corporate bonds outperforming. Gold traded higher, while oil continued to trade lower.
Key Takeaways
Market Expectations for a December Rate Cut Continue to Swing
Investor expectations for a Federal Reserve rate cut in December jumped last week after new data showed rising unemployment and a rise in the number of continued unemployment claims. Fed officials have expressed concern about a cooling labor market, but there’s uncertainty about the path forward. The Fed is working with outdated data due to the recent government shutdown, and the October meeting minutes reveal significant internal disagreements. Why it matters: The market expects three to four rate cuts by the end of 2026, starting next month, but Fed policy is far from settled.
Stocks Rebound on Renewed Rate Cut Hopes
After trading lower for the first three weeks of November, the stock market rebounded strongly as hopes for a December rate cut returned. Investors had been cautious due to falling rate cut odds and questions around AI spending, but a shift in Fed commentary reignited optimism. Why it matters: The December Fed meeting has become the market’s next major catalyst, with sentiment swinging in response to changing rate-cut expectations.
Investors Are Scrutinizing the AI Sector More Closely
There’s a sharp divergence in the performance of AI stocks. The key distinction is how companies are financing their capital expenditures, particularly those relying on large, debt-funded infrastructure spending plans. Oracle serves as an example, with its stock down more than -40% from its September peak after raising $18 billion in debt to support its AI expansion. Why it matters: While demand for AI infrastructure remains strong, investors are now focused on whether these massive capital outlays will deliver tangible returns. Companies funding large-scale projects with aggressive debt are facing increased pressure to justify their spending.
Solid Q3 Earnings Boost Market Confidence
Earnings results for the third quarter have been much stronger than expected. Companies are reporting solid profit growth, with most beating estimates and showing healthy margins. Why it matters: Despite economic uncertainty, corporate fundamentals remain solid. The strong Q3 earnings season has boosted market sentiment and helped justify the stock market’s elevated valuation.
The Economic Data Backlog Starts to Clear
With the government shutdown over, the backlog of economic data is slowly being cleared. The initial data releases are mixed: consumer spending has slowed, producer prices rose more than expected, but business investment continues to improve. Why it matters: The data provides insight into the economy, but it comes with a significant delay. It will take time to get a timely and accurate picture of current conditions.
Equities
The S&P 500 returned +3.7% for the week as stocks bounced back from the previous week’s volatility amid increased expectations for further rate cuts from the Fed. AI-related tech stocks lead the recovery. Mid cap (+3.7%) and small cap (+5.5%) stocks also staged a recovery. All sectors in the S&P 500 had positive returns; communication services (+5.9%) and consumer discretionary (+5.3%) were the best performing. EAFE markets returned +3.2% with strong gains in Europe (+3.4%), while EM markets returned +2.5% with gains in Brazil (+4.8%) and Korea (+3.0%).
From a valuation perspective, the S&P 500 and EM trade at or above +1 standard deviation based on historical forward P/E ratios, with the S&P 500 at +1.9 and EM at +1.1. For the next 12 months, EPS growth for S&P 500 is expected to be 10.8% (vs. 6.9% annualized over the last 20 years). For the next 12 months, EPS growth for NASDAQ is expected to be 17.2% (vs. 10.7% annualized over the last 20 years). Equities across markets caps in the U.S., and in non-U.S. developed and emerging markets, trade at or above their 20-year averages based on forward P/E ratios.
Fixed Income
Investment grade fixed income sectors had positive returns as rates fell across the curve. Municipals returned +0.2%, US AGG returned +0.4% and US IG returned +0.7%. HY bonds returned +0.8% as spreads compressed 32bps while bank loans returned +0.2%. EM debt returned +0.4% even as the U.S. dollar fell 0.7%.
Rates
Rates fell across the curve as traders raised the odds of a December rate cut. The recession-watch 3M-10Y spread compressed 2bps to +20. The 2Y-10Y spread compressed 3bps to +52. Rates fell in other developed markets, except Japan. The BTP-Bund spread is at 0.71%. 5-year breakeven inflation expectations fell 1bp to 2.32% (vs. low of 1.88% on Sept 10, 2024); 10-year breakeven inflation expectations fell 2bps to 2.23% (vs. recent low of 2.03% on Sept 10, 2024); the 10Y real yield fell 4bps to 1.76%. The market now prices a 100% probability of an additional rate cut in 2025 vs the Fed’s guidance of one cut. At year-end 2025, the market expects the Fed Funds rate to be 3.65% vs. the Fed’s guidance of 3.5%-3.75%. For 2026, the market expects a further 2 to 3 cuts vs. the Fed’s guidance of 1 cut.
Currencies/Commodities
The dollar index fell 0.7%. The commodities complex rose 1.7% as energy prices rose 0.4% for the week. Brent prices rose 1.0% to $63/bbl; U.S. natural gas prices rose 5.9% while European gas fell 3.6%, both related to weather fluctuations.
Market monitors
Volatility fell for equities and for bonds (VIX = 16, MOVE = 69); the 10-year average for each is VIX=19, MOVE = 80. Market sentiment (at midweek) remained at -11 as increased volatility has spooked investors.
Disclosure and Source
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