• Investors are faced with conflicting signals due to the economic slowdown and expectations of continued corporate earnings growth.
• A surprise rise in unemployment has fuelled fears of a recession, but these may be unfounded.
• The general development of the stock market depends on how stable the profit growth of companies is.

Markets are processing mixed signals, which will likely be the drivers of equity performance for the remainder of 2024.

On the one hand, investors fear an economic slowdown as the recent rise in unemployment numbers has sparked a new wave of fears that the US is on the brink of a recession. On the other hand, Wall Street continues to expect earnings growth to remain stable, which will lead to further share price gains.

“While the market focus in the first half of the year was largely on inflation developments, the focus in the second half of the year quickly turned to growth risks given the increased earnings expectations for the second half of 2024 (+9%) and 2025 (+14%),” JPMorgan analysts wrote in a note on Thursday.

They say market dynamics currently focus on a “two-sided debate” that focuses on risks to economic growth and high equity valuations.

A surprise rise in the unemployment rate last week, the triggering of the Sahm Rule recession indicator and a Federal Reserve that may have left monetary policy in restrictive territory for too long have increased investor concerns that a recession is imminent.

This would likely be accompanied by massive price declines. A preview of this was clearly seen earlier this week, when the Nasdaq 100 extended its monthly decline to over 10% and some mega-cap technology stocks suffered double-digit losses in a single day.

“In our view, the recent market decline was largely due to fears related to weaker growth and a reassessment of the likelihood of a recession,” wrote JPMorgan strategists.

This week, the bank raised its probability of a recession by year-end to 35% from 25%, while Goldman Sachs raised its probability of a recession to 25% from 15%.

Analysts point out that the stock market remains at risk of further downside risks as valuations remain high and the Fed shows no urgency in cutting interest rates.

“While the recent market rebound has taken some of the excitement out of it, equity positioning and valuation remain at risk, particularly if growth continues to slow and the Fed shows no urgency,” JPMorgan said.

But even though the U.S. economy appears to be slowing, corporate profits are still rising, which should provide a floor for stock prices and could possibly even give them further momentum.

Of the 88% of S&P 500 companies that have reported second-quarter results so far, 79% beat earnings estimates by an average of 6%.

Year-on-year, earnings have increased by almost 12%, well above expectations of 9% growth a few weeks ago.

In addition, expectations for future earnings reached a historic high last month, according to data from Yardeni Research.

What is clearly visible is the stark contrast between the fear of an imminent recession and a possible weakening of stock prices, even if corporate profits rise sharply.

Google search trends for the word “recession” have reached their highest level since June 2022, when rising inflation and aggressive interest rate hikes sparked investor concerns about an economic slowdown.

At the same time, mentions of an economic downturn on corporate earnings calls have fallen to their lowest level since the third quarter of 2022, according to data compiled by Bloomberg.

“The S&P 500 is up 10.5% year-to-date. We expect some sideways movement in the coming months and are mindful of looming risks in the Middle East, but remain optimistic about U.S. economic growth and U.S. equities,” Ed Yardeni of Yardeni Research said in a note to clients earlier this week.

JPMorgan analysts note that a final uncertainty that investors should consider is the new uncertainty surrounding the election created by the emergence of Kamala Harris as the likely Democratic nominee.

“Their late entry into the presidential race presents an additional hurdle for investors in assessing electoral risk for later this year, as the gap between the two candidates has narrowed and the final policy programs of both are still uncertain,” the analysts wrote.