A few weeks ago, I published a note detailing that I thought it fairly equally likely whether 2025 ends up a very strong year for US equities (AI narrative delivers) vs a very weak year (AI narrative fails to deliver, macro factors bite). I thought it very unlikely we end up in a consolidation/modest returns year given elevated multiples likely meaning we need continued upside surprises just to fuel current valuation levels and the binary nature of the outcomes (what would AI coming in exactly in line with what is priced right now even look like?).
Since Trump’s inauguration on January 21, I think we’ve seen enough evidence to push me further into the bear camp.
First off, the big upset to the AI narrative from DeepSeek, and second, the market response to the tariff roll out then reversal. I am baffled that markets have broadly disregarded the following:
A flurry of executive orders
A major market wobble amid a 36 hour tariff episode and reversal
Threats of tariffs on Europe
Actual tariffs on China
The biggest threat to the AI equity bull narrative this cycle
DOGE/Musk in the Treasury's payments system (not to mention disappointing results from TSLA)
The Fed meet solidifying a hawkish pivot
For me, the most astounding thing is just how quickly the Nasdaq closed the weekend gap already. The large down moves shows cleanly the pricing in of tariffs which were confirmed on Saturday. Once the Canada and Mexico tariffs were hinted at being delayed, US risk ripped, and the possibility of downside has completely been written off.
This might indicate that there is not a healthy degree of risk aversion in markets at present. Investors are throwing money at every dip and believe that things will go up. The implementation then reversal of tariffs is new knowledge. It shows markets and businesses that the risks are realer than previously understood and it clearly should impact the risk weighted probabilities of economic outcomes in a negative way. As does the introduction of DeepSeek.
However, that has clearly not happened.
An environment where everyone is throwing caution to the wind is one where risks build under the surface and cavalier risk attitudes lead to the possibility of large drawdowns. This is not to say that equities will not go up - bull markets can get away from themselves, but I am now very cautious of fairly sharp downside moves, which is my core outlook on a six month horizon.
In support of this, there is a wide array of other indicators that suggest risk appetite is going too far.
US equities currently constitute around 75% of world equity market cap.
Ratios are pretty crazy
Everyone is bullish (current ~6,050)
The Mag-7 constitutes over 30% of the S&P 500 - concentration is crazy
And the Mag-7 completely dominate earnings expectations
Credit spreads are super tight, indicating little compensation for risk taking
US stock market capitalisation to GDP is at insane levels
We just had two Mondays in a row of major downside moves, but puts aren’t overly pricey (per Market Chameleon)
And US treasury prices are rising sharply with a flattening yield curve (risk off as capital flows into the long-end?)
For me, this all indicates that people are getting a little ahead of themselves, and with expectations sky high, things may come flying back down to earth.
Note: Many of these charts are from Yardeni Research, which provides an invaluable resource in the chart library.
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This newsletter is for informational purposes only. It does not constitute investment advice or an offer to invest. The views expressed herein are the opinions of JB Macro exclusively. Readers should conduct their own research and consult with professional advisors before making any investment decisions.
Year end price targets of SP500 at 7000+ is crazy to me