Research.LeutholdGroup

A year ago, we wrote “We’re not as cautious on the stock market as we should be, because it is going up.” We’d never make such a silly argument to a fifth-grader, but we somehow felt it appropriate to share that rationale with our audience of seasoned market professionals.

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The NY Fed model puts the next twelve months’ recession probability at 29, yet based on the continued steepening of the yield curve, the model’s recession odds will continue to drop in the months ahead. But beware. Recession probability dropped to just 12% the month before the commencement of the 2008-2009 Great Recession.

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The labor market continues to send mixed signals. Initial unemployment claims for the final week of 2024 sunk to an eight-month low. However, December’s average claim level was about 9% above that of a year earlier.

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One can’t blame the stock market for not hinting that 2024 was going to be a barn burner. It did. On January 2, 2024, a critical “breadth-thrust” signal was triggered and, true to historical form, SPX delivered a 20%-plus gain through the next twelve months. Notably, an impressive aspect of the breadth-thrust track record remains intact: The index has never registered a 12-month loss after any these signals.

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Commemorating the Y2K Tech bubble today is not necessarily premature, since December 1999 was the valuation peak of that bubble—and indeed of all U.S. stock market history. Buying the S&P 500 at the end of the last century might therefore be considered the worst-timed stock market entry ever.

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Key measures of S&P 500 valuation enter 2025 at levels only seen in the final gasps of either the Tech Bubble or the 2021 post-COVID market mania. Many would counter that speculative psychology is not at the same heights as in those crazed market eras. Based on at least one sentiment measure, they’re correct: It’s higher!

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The drawback of a relative valuation ratio is that it tells us nothing about the absolute valuation appeal of either asset. While it’s relatively cheap of late, the median S&P 500 stock still trades in its top historical decile on four of five metrics.

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We’ve paid attention to an increasing number of stock-market calendar patterns over the years, boosting the odds that one of them will score a major hit in any given year. In all, we’d grade the composite of these cycles as mildly bullish for stocks in 2025.

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Our favorite market forecasting guide, Benner’s Prophecies of Future Ups and Downs in Prices shows the next big inflection year will be 2026, which qualifies as a “Year of Good Times and High Prices… Time to Sell.” That classification was on the mark in two of the last three cases (1999 and 2007, but not 2016). 

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In the theme that’s reminiscent of all but a few of the last 16 years, the optimal strategy for equity managers and asset allocators in 2024 was the same: Buy the S&P 500, and then hit the links. There is statistical support for doing exactly same thing in 2025. 

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Big November gains in 2022 and 2023 were clearly kick-off events, while the more speculative backdrop of late 2024 makes the latest November jump look more like a blow-off. Nonetheless, market internals do not reflect a bull that’s ready to top out: The S&P 500 simply has too much companionship at recent highs, including cyclical stocks, financials, and small caps.

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AI might have culled some 2024 stock market dynamics, like Growth over Value and Large Cap over Small Cap from a sample of just a few Green Books from the last dozen years. Maybe the software has already become sentient, as its creators fear. 

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Statistically (and paradoxically), the consequence of 2024’s huge stock gains has made the market look riskier for long-term investors, but potentially safer for near-term speculators. The larger and broader the upside action, the more challenging the math becomes for the “buy-and-hold” crowd.

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Prior to the September 1929 economic downturn, the NYSE Daily Advance/Decline Line had trended sharply lower since early 1928—a sign the market was sniffing out trouble. Today, with the latest highs in the blue chips having been confirmed by the major bellwethers, if a recession materialized in Q1-25, it would likely be the market’s worst failure in history from an economic forecasting perspective.

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Last month, the Fed claimed to be in the “last mile” of the road toward 2% inflation. Naturally, their preferred inflation metric is the one currently nearest that goal: the headline CPI, up 2.6% from a year ago. On the contrary, no other inflation measure suggests the mission is almost accomplished. 

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Sharply rising projections for EPS are a reason this market doesn’t seem quite as bubbly as its price tag suggests. Barring a sudden collapse, 2024 will be just the third year in which forward earnings estimates and the forward P/E multiple both increase by more than 10%.

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Many factors are apt to limit the bull’s lifespan. A big one is simply the fact that the economy was doing just fine when it began. In the four other times a bull launched without a preceding recession, its gains were solid (+48% to +80%) but never spectacular. 

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Valuations on the MSCI World Ex-USA Index relative to the MSCI USA Index have faded to shockingly low levels. The trailing P/E ratio, P/E on 5-year average EPS, and Price/Cash Flow have sunk to near 50% discounts, while Price/Book and Price/Dividend are even lower.

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The markets and the economy in Trump’s first term benefited from both the shock of his election and “initial” conditions. Among the more attractive backdrops of 2016 were a deficit of “just” 3% of GDP, inflation at 2.1%, and restrained investor confidence. 

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The cyclical backdrop for stocks looks more precarious than that surrounding Donald Trump’s stunning victory in 2016. That said, there’s no real Technical obstacle to a short-term continuation of the 2024 “Trump Trade.” 

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