The macro bulls were rejoicing last week when the second quarter U.S. real GDP number was revised up to a +2.2 per cent annual rate from +1.5 per cent, but there seemed to be no recognition of the fact that this upward revision came off downward revisions to the prior two quarters. So in the end, the overall level of economic activity was left barely untouched, and so the year-over-year trend is now +2.2 per cent instead of +2.1 per cent. So to that I say big deal.
Now, most of the second quarter upside revision came from the consumer, even though real personal disposable incomes were down 0.2 per cent at an annual rate. Yet, real consumer expenditures were up a resounding 3.8 per cent, courtesy of the fact that the personal savings rate declined to a four-year low of 4.4 per cent from 5.3 per cent. The equity wealth effect on spending is still alive and well, because absent that, the economy would actually have contracted at a 1.1 per cent annual rate in the second quarter. This was even more powerful than the AI spending binge. That is what I label a low-quality economic performance.
So, I’m not at all surprised that now we are seeing some dissension at the Fed, as we saw last week out of John Williams, Philip Jefferson, and Lorie Logan, all seeming willing to now wait and assess the data. Well, despite the fact that the bond market can’t seem to get out of its own way, there is little doubt in my mind that the diesel-led inflation scare is proving to be as much of a false signal as the Trump tariff file proved to be, now that core goods inflation, at +0.7 per cent YoY, is half where it was a year ago.
The tariff landed, but only a fraction made it into final inflation, and maybe that is because labour costs are 10 times more powerful a force on retail sector inflation. Nominal wages were only up 0.1 per cent in September at a time when the consensus penned in +0.3 per cent, and that dragged the year-over-year trend to +3.0 per cent from +3.9 per cent this time last year, putting it at the slowest pace since May 2021, when inflation was hardly a headline grabber.
Which brings me to consumer confidence, which tanked in September to 81.9 from 88.6 in August — a huge surprise to a consensus expecting a relatively unchanged 89.0 level. Confidence is now at a 12-year low, and it is interesting that it undercut the COVID-19 recession trough in 2020 and is right in line with the onset of the Great Recession, which began in late 2007. We are down to just 18.5 per cent of respondents stating that the economy is in “good shape” while 20.4 per cent say “bad.” That 1.9 percentage point gap is tied for the widest since November 2022.
Adding insult to injury, the share seeing business conditions improving in the next six months receded to 15.9 per cent from 17.0 per cent and has been down in each of the past three months. That compares to 25.4 per cent who believe the economy will “worsen” (from 23.3 per cent in August and up three months in a row), and that 9.5 percentage point gap is the biggest since Liberation Day in April 2025.
Again, and this serves as a big question mark for what the Warsh Fed is really looking at — because I think working people have a good idea as to what the jobs market really looks like — and the share of households believing that job market conditions will erode in the next six months rose to 28.4 per cent from 26.1 per cent in August and 25.3 per cent in July. This is the highest reading since the turn of the year.
But the Fed’s hawkish tone has resonated in a major way because we are up to a 68.4 per cent share fearing higher interest rates over the next 12 months, up from 63.2 per cent in August and rising now in each of the past three months. You need to go back to August 2022 to see the last time that rate expectations were this high. The 9.5 per cent minority holding out hope for lower interest rates compares to 11.5 per cent in August and 12.5 per cent in July, and that is at a four-year low.
Amazingly, hardly a dent in the ingrained bullish belief about what the stock market will do — while the optimistic share did dip to 48.8 per cent from 53 per cent, it remains near the high end of the range. Only 27.1 per cent are bearish on stocks (this is actually down from 32.7 per cent in March!). You need to go back to Liberation Day, once again, to find the last time that there were more bears than bulls. But what is not apparent to the naked eye is that market breadth has eroded in a major way.
The average S&P 500 stock is actually already in a bear phase, down more than 20 per cent from the highs. The median stock is down 17 per cent. There is not one member of the S&P 500 at a new 52-week high, but 204 companies, or over 40 per cent of the index, are more than 20 per cent below. A majority of the stocks in the S&P 500 — 311 of them — fell in the third quarter (even with a small gain of 2 per cent — but at the same time that the small-cap Russell 2000 peeled back more than 7 per cent). Almost 80 per cent of stocks in the S&P 500 were down in September, the average stock was off 5 per cent, and only two out of 11 sectors were up, led by Tech. The other gainer, Communication Services, was up only because of Tech giants Meta and Alphabet. There can be little doubt that beneath the surface, September’s stock-price moves show how narrow the market has become.
Not exactly the hallmark of an extended bull market.
All signs of classic breadth deterioration, and the veterans know full well this tends to come right before price tops. As I have said over and over again, it’s a classic Bob Farrell-style warning about fragility; not a timing tool. But narrow markets have a finite time span, and the deteriorating technical picture is sending us a signal.
Not to scare anyone, but if you are still long risk in your portfolio, you probably should be feeling a little uncomfortable. That includes the near-70 million baby boomers, who have 55 per cent of their asset mix in equities — with the median age now at 70, they should be closer to 30 per cent. And despite the fact that they actually need income to fund their next 15 years, they do not have a whole lot of time to make up for an inevitable bear phase, yet they have less than 5 per cent in bonds!
U.S. Treasuries now pay roughly 5 per cent or more across the curve and with no callable or default risk — and juicy 3 per cent real yields to boot. Talk about looking a gift horse in the mouth. But I ask … will they act before it’s too late?
David Rosenberg is founder of Rosenberg Research.