Hiring is at a standstill. Inflation is on the rise again. Consumer sentiment is slipping near historic lows. Americans are increasingly fed up with the economy.
Meanwhile, the S&P 500 has hit four record highs this month. The Dow closed above 46,000 for the first time in history on Thursday. So, if the economy stinks, why is the stock market so delighted?
In some ways, stocks are trading at record highs because of the bad juju in America’s economy, not in spite of it.
A surprisingly weak job market has significantly boosted investors’ expectations that the Federal Reserve will be forced to cut interest rates multiple times this year, according to CME FedWatch, a tool that assigns probabilities of Fed rate decisions to market machinations. The market is pricing in an 80% chance of a December rate cut, an 86% chance of an October cut and a 100% chance that the Fed cuts rates at the conclusion of its two-day meeting on Wednesday.
The market has been eager for lower borrowing costs – the Fed hasn’t cut rates at all in 2025 after slashing rates by a percentage point across three meetings at the end of last year. But Fed Chair Jerome Powell has said uncertainty surrounding President Donald Trump’s tariff policy has given the voting committee pause. Inflation has crept higher over the past several months in part because tariffs are – slowly – starting to boost prices. Rate cuts could exacerbate inflation.
Wall Street loves rate cuts, because they can help boost businesses’ profits by lowering costs for loans. That gives more perceived underlying value to the companies’ stocks, and it can give employers extra cash to hire. That’s why rate cuts tend to boost the economy over time.
Stock investors have also cheered some long-awaited strength in the bond market, which has suddenly gained steam because of intensifying fears about a slowdown in job growth. The safe-haven US Treasury market has been on fire in recent days as traders have been pricing in Fed rate cuts, which tend to drive yields lower and prices higher (prices and yields trade in opposite directions). The 2-year Treasury yield is trading near its lowest level since the 2022 inflation crisis, and the 10-year Treasury yield is flirting with 4% for the first time since April’s tariff-fueled meltdown.
Lower bond yields also help businesses spend less on their debt, adding potential value to their stocks.
The S&P 500, the benchmark for the stock market, has gained 6% since the shocking August 1 jobs report showed hiring slowed down significantly and the US economy had actually created a quarter million fewer jobs over the previous two months than previously believed. The market has been on a particular tear in September in the leadup to the Fed meeting, as more moribund jobs data poured in – the S&P 500 has posted gains in six of nine sessions this month.
So bad news about the economy has certainly been good news for stocks in recent months.
But that’s not the full story.
What else is driving stocks higher
Although the Fed has undoubtedly boosted optimism that the already-historically expensive stock market still has room to run, strength in company earnings have helped give traders confidence, too: Wall Street’s profit and sales growth expectations remain rock-solid.
And, after all, the stock market is really just a collection of individual companies whose prices move up or down based on their perceived value. If investors didn’t have faith that the companies that they trade would make them money, they probably wouldn’t value the stocks so highly.
The artificial intelligence industry’s electric growth has also been fueling the market’s rise. Nine of the 10 most valuable stocks on the market are deeply involved in AI, and they collectively make up about 40% of the entire value of the stock market.
To give a sense of how much enthusiasm the market has for AI, Oracle’s stock shot 36% higher in a single day last week, after a stellar forecast for AI-fueled datacenter demand. That briefly made cofounder Larry Ellison the world’s richest person (though he finished Wednesday $1 billion poorer than Elon Musk), and it propelled Oracle (ORCL) into the top-10 list of most valuable companies on the market.
And stocks have gained ground after Trump’s tariffs went into effect in early August, giving businesses a bit of certainty after months of on-again, off-again trade threats that prevented companies from making informed decisions about their investments. The tax benefits delivered in Trump’s signature “One Big Beautiful Bill Act” also helped give companies some additional support to their bottom lines – and it gives investors confidence that the massive fluctuations in White House policy maneuvers have settled down and they can therefore take on some more risk in their portfolios.
Meanwhile, consumers have continued to spend, despite tariffs and growing concerns about the economy. Spending rose 0.5% in July, the Commerce Department reported two weeks ago. That’s crucial: Consumer spending makes up more than two-thirds of US gross domestic product, the broadest measure of America’s economy.
“It’s not just the Fed,” said Citi Research analyst Scott Chronert in a note to investors on Friday. “Earnings expectations continue to be strong while rate volatility and levels falls. Combined, this is a powerful narrative for risk assets.”
Why stocks could fall
But there’s still reason for concern.
Stocks are historically pricey: The S&P 500 is trading at 3.3 times the value of its constituents’ sales expectations, the highest on record. It’s also at a historically high price-to-earnings ratio of 25 to 1; that means for a company to earn $1 in future earnings, investors are willing to pay $25 in share price. That means investors may be getting a bit ahead of themselves.
Price increases may start to weigh on consumer spending, eroding the case for companies’ sales growth. Inflation this year has added $195 a month in costs for a typical American household, according to Moody’s Chief Economist Mark Zandi.
As costs start to rise, consumers have been adding to their already massive debt loads, which could become a problem. Debt delinquencies are on the rise, accelerating because of student loan debt payments restarting in October 2024, according to Dana Telsey, CEO and chief research officer of Telsey Advisory Group. Student loan repayments will suck $80 billion out of the economy this year, Brookings said last week.
Inflation, though not at runaway levels like in 2022, is becoming such a concern that a traditional inflation hedge is setting new records: gold. Trading at nearly $3,700, gold has gained about 40% this year and recently eclipsed its inflation-adjusted record-high set 45 years ago. Traders worried about inflation tend to pour money in gold, which some believe holds an intrinsic value that hedges against rising prices.
Gary Friedman, CEO of RH (formerly Restoration Hardware), made the case Thursday on a call with Wall Street analysts that tariffs and inflation pose a more significant threat to businesses than most people realize – so he’s not all that excited about a rate cut from the Fed.
“What do I worry the most about? Just kill inflation. I’m more motivated about killing inflation than getting an interest rate cut right now, because we had an interest rate cut and the tariffs create more inflation than anybody thinks,” Friedman said. “I don’t want to win because 50% of our competitors who are really good, hard working people, get wiped out.”
“I really don’t think anybody is thinking about the math,” he added.
CNN’s Matt Egan contributed to this report.