The Fed’s Aggressive Rate Cut Pricing Doused: Is the U.S. Stock Market Rally Facing a Test?

Following the Federal Reserve’s September policy meeting, the U.S. stock market has posted five consecutive weeks of gains. The shift in monetary policy boosted risk sentiment, while strong labor market signals eased recession fears, leading to a tempering of aggressive rate cut expectations.

In the coming week, I believe geopolitical factors will remain influential, with inflation data and earnings season likely to be the key drivers of market movements.

U.S. Soft Landing Prospects Strengthen

The U.S. economy’s resilience is further brightening the outlook for a soft landing. One of the most closely watched indicators last week came from the Department of Labor, which reported 250,000 new jobs added in September—far exceeding expectations. Job gains for July and August were also revised upward, and the unemployment rate dipped from 4.2% to 4.1%.

Additionally, the latest Job Openings and Labor Turnover Survey (JOLTS) revealed that job openings rose to 8.04 million in August, a three-month high. Meanwhile, the hiring rate fell to 3.3%, tying with the lowest level since 2013 (excluding pandemic-related distortions). The service sector, a key pillar of the economy, grew at its fastest pace in a year and a half, with the ISM Services PMI climbing to 54.9 in September—the highest since February 2023.

Bob Schwartz, a senior economist at Oxford Economics, noted that the September jobs report was better than expected, with wage growth accelerating. He added that the strong ISM services reading is further evidence of robust economic expansion: “Consumer spending continues at a solid pace, and with the easing of financial conditions, this should be well-supported this year and next. Once political uncertainties recede, there will be significant room for improvement.”

Market Sentiment Remains Optimistic

The U.S. stock market has extended its rally since mid-September. As of last Friday’s close, the Dow Jones Industrial Average set its 34th record closing high of the year, and the S&P 500 index is now less than 1% away from its all-time high.

According to Dow Jones Market Data, sector performance last week was mixed. Surging oil prices lifted the energy sector by 7%, followed by a 2.2% gain in communication services. Utilities, financials, industrials, and technology stocks also advanced, while materials and real estate, last week’s leaders, saw declines. Tech stocks attracted significant attention, with OpenAI raising $6.6 billion in new funding, bringing its post-money valuation to $157 billion. Meanwhile, several institutions raised their target price for Meta.

Investor sentiment remains optimistic, as indicated by Bank of America's cross-asset bull market indicator, which rose from 5.4 to 6—the largest weekly gain since December 2023. This surge is attributed to strong inflows into emerging market equities and robust credit market technicals.

Earnings reports from BlackRock and JPMorgan also exceeded expectations, driving their shares up by over 3% and 4%, respectively, by Friday’s close. This positive momentum is likely to carry over into next week’s trading.

Key Risks and Market Drivers Ahead

In its market outlook, Charles Schwab highlighted the potential impact of geopolitical tensions in the Middle East and ongoing East Coast port strikes. It is important to consider how recent developments may affect future inflation, as rising prices could complicate the Fed’s job and increase market volatility.

For now, inflation trends appear aligned with the Fed’s targets, with solid economic fundamentals providing a stable backdrop. Market participants seem to welcome the Fed’s gradual approach to easing monetary policy.

Looking ahead, earnings season will be a key market driver. Strong U.S. economic data remains a primary force behind the stock market’s recent rally, with the potential to push markets even higher. Notably, FactSet is currently forecasting 4.6% earnings growth for the S&P 500 in Q3—down from 7.8% earlier in the quarter but still a positive indicator for the market.