The U.S. stock market’s relentless ascent continues, with the S&P 500 achieving its 57th record close of 2024. Fueled by a robust economy, anticipated interest rate cuts, and optimism surrounding the incoming Trump administration’s promised tax cuts and deregulation, the index has surged nearly 28% year-to-date. This remarkable performance begs the question: is this sustainable, or is a correction imminent?
A key characteristic of this rally is its sheer momentum. The S&P 500 hasn’t deviated 10% or more from its record high in over 13 months, the longest streak in nearly three years. Historically, corrections of this magnitude occur annually, on average, according to BofA Global Research. As Steve Sosnick, chief strategist at Interactive Brokers, observes, “Momentum is the factor that is driving the market.” This sentiment is echoed by many market participants who recognize the inherent risk in betting against a strong uptrend. Historically, the S&P 500 has delivered back-to-back annual gains of 20% or more five times since 1928, and in each instance, the index continued to climb three months later, averaging a 6.3% gain, based on a Reuters analysis of LSEG data.
Despite the prevailing bullish sentiment, concerns are emerging regarding potential overvaluation. Bank of America’s Michael Hartnett highlights that the S&P 500’s current price-to-book ratio of 5.3 exceeds its March 2000 peak, raising the specter of a potential “overshoot” in the first quarter of 2025. He also points to signs of “froth” in broader markets, exemplified by Bitcoin’s recent surge past $100,000. While Bank of America maintains a 2025 S&P 500 target of 6,666, representing a 9% upside, such indicators warrant caution.
Ed Yardeni of Yardeni Research underscores the prevailing bullish sentiment by citing the November Consumer Confidence Index, which reveals a record 56.4% of consumers anticipating higher stock prices in the coming year. Historically, extreme sentiment levels often serve as contrarian indicators. Yardeni suggests that a near-term pullback, while possible, could present a buying opportunity for investors.
Adding to the chorus of cautionary voices, Lori Calvasina, head of U.S. equity research at RBC, expresses concern that concentrated investor positioning and elevated valuations leave the S&P 500 vulnerable to a 5% to 10% correction. The current forward price-to-earnings ratio of 22.6 significantly surpasses the historical average of 15.77.
However, these concerns haven’t yet manifested in broader market volatility. The Cboe Volatility Index (VIX), a gauge of investor anxiety, recently plummeted to a near five-month low of 12.75. Historically, when the VIX closes below 14, it typically takes 136 trading sessions to surpass 20, a level indicative of moderate volatility. Furthermore, the S&P 500’s historical tendency toward strong December performance, with an average gain of 1.6% and a 74% win rate, bolsters investor confidence.
While a market reversal is inevitable, potential triggers remain elusive. One possibility is volatility arising from potential trade disputes initiated by the incoming administration. However, for now, many investors, like Mark Newton of Fundstrat Global Advisors, remain steadfast, viewing short-term “overbought conditions” as insufficient justification for exiting the market.
In conclusion, the U.S. stock market’s remarkable rally persists, driven by robust economic fundamentals and positive investor sentiment. However, rising valuations and signs of excessive speculation warrant caution. While a correction is inevitable, its timing and magnitude remain uncertain. Investors should carefully weigh the interplay between momentum and valuation as they navigate this dynamic market environment.
