Figure 1

Investment implications

• Equities tend to benefit in the months following rate cuts in a “no recession” environment. With the Fed just starting the cutting cycle to normalize rates, this could extend the runway for the current bull market. Rate cuts might boost more market segments like small caps and value stocks, which were hindered by “higher-for-longer” rates and lagged mega-cap tech.
• Bull markets can still be punctuated by periods of drawdowns. Investors should remain confident when fundamentals appear healthy to weather volatility and stay invested, given best performing days tend to follow soon after and missing such days drastically reduces long-term returns. August 2024’s drawdown came on the back of unwinding popular trades, but fundamentals looked sound, and the bull market regained its footing soon thereafter.
• As inflation has eased, bond correlation with equities is normalizing, improving bond diversification benefits in a weak growth-induced bear market. Although 60/40 strategies experienced their worst return in decades during the 2022 bear market, our confidence in such allocations as a diversifier has improved with the inflation outlook.

What we are watching

• Signs of economic deterioration. The backdrop continues to look healthy with buoyant US GDP and employment numbers. Fears of a slowdown have yet to be meaningfully supported by hard data, which does not bode well for bull markets when the data weakens.
• Corporate earnings growth and broadening. Corporate fundamentals have been strong, particularly in the US, but heavily concentrated in mega-cap tech stocks. Sustained earnings growth is not only indicative of a continued bull run, but growth stemming from a wider selection of industries is supportive of a more sustainable market rally moving forward.
• The rise of speculative investments. Heightened investor frenzy on assets increasingly detached from fundamentals could signal the end of the bull market. Harbingers of the end of the post-COVID bull market such as bitcoin and SPACs are not in the same bubble territory today.