The summer selling wave is becoming more like a "little episode" in the midst of the bull market in US stocks

With the rebound of the US stock market, as well as most stock markets in Asia and Europe, the "stock market sell-off" this summer seems more like a "pause-style interlude" in this bull market, rather than the beginning of the end of the bull market. With the expectation of a "soft landing" in the US economy, the incredibly strong stock buyback scale of US companies, and the continued expansion of profit growth expectations, US stocks and global stock markets are expected to remain strong in the long bull market.

Concerns about a US economic recession have significantly eased, and the market has refocused on the "soft landing" of the US economy. The temporary end of the yen carry trade unwinding turmoil has led to a renewed flow of global funds into risky assets such as stocks, and traders are generally betting that the Federal Reserve will start a rate-cutting cycle next month, leading to a significant rebound in global stock markets this week.

In Asia, the benchmark stock indices of Japan and South Korea have recovered all the losses from the "Black Monday". European stock markets continued to rise after opening on Friday and are expected to achieve the largest weekly gain in three months, getting closer to the historical high set earlier. The S&P 500 index is expected to achieve its largest weekly gain since October this week, having recovered all the losses from August, and is currently only 2.2% away from the historical high in mid-July.

Of course, traders have been trying to predict the direction of the economy, and concerns about a US economic recession that triggered the global market correction may reappear as rapidly as they faded recently. In addition, the US presidential election and the tense geopolitical situation in the Middle East have added other uncertainties.

However, beneath the surface, there are still some reassuring signals. Among them: this global stock market sell-off only touched a small part of the market capacity, far less than the collapses triggered by the Federal Reserve's aggressive rate hike cycle, the COVID-19 pandemic, and other key black swan events. Although if the US economy really falls into recession or stagflation, valuations may face the risk of further adjustment, but the benchmark US stock index - the S&P 500 index - has remained resiliently above a certain threshold in the recent pullback, at least indicating confidence from global funds in the long bull market for US stocks.

Compared to other periods of sharp declines, the scale of this wave of sell-offs appears small

Although the recent drop in US stocks that began last month was significant and very rapid, leading to a technical correction in the Nasdaq 100 index dominated by technology stocks within three weeks, it was mainly driven by a few stocks - the seven major US tech giants with high weightings.

The seven major tech giants, known as the "Magnificent 7," including Apple, Microsoft, Google, Tesla, NVIDIA, Amazon, and Meta Platforms, have seen their stock prices soar since 2023. However, recently, these tech giants have experienced a sharp decline due to factors such as their valuations being near historical highs, the unclear prospects of AI monetization, and the potential impact on profit margins of large-scale investments in AI GPU infrastructure by giants like Google and Microsoft.

Global investors flocked to the "Magnificent 7" throughout 2023 and the first half of 2024, betting on these tech giants as companies worldwide invested heavily in the development of generative AI. These giants have massive market size and financial strength, and the frenzy of investment under this wave has triggered the recent decline as these giants face challenges They are in the best position to expand revenue using artificial intelligence technology.

According to data compiled by institutions, during the deepest decline, only about 5% of the components of the S&P 500 Index fell to a one-year low. This means that the scope of this decline is much smaller than previous declines caused by major macroeconomic changes or significant black swan events. After inflation surged and the Federal Reserve began an aggressive rate hike cycle in 2022, nearly half of the index's components fell to 12-month lows. In addition, during the COVID-19 pandemic, this proportion rose to about two-thirds.

"Delayed Healthy Adjustment"

Statistics show that before last month, the S&P 500 Index experienced the longest continuous rise since the global financial crisis erupted in 2007—meaning there had been no single-day decline of more than 2% for a long time. From a certain perspective, this made the "summer major correction" look like it should have happened a long time ago, referred to by some Wall Street analysts as a "delayed healthy adjustment."

In contrast to the NASDAQ 100 Index, which can be called the "global technology stock barometer"—the significant pullback in this index reflects long-standing concerns about the overvaluation of tech giants. The S&P 500 Index never fell below a key technical correction range, but quickly rebounded after only an 8.5% drop from its peak.

As a comparison, during the global stock market crash in 2022, the S&P 500 Index plummeted by as much as 25% in the year before the sustained strong rebound in 2023. During the global financial crisis, the index plunged by over 57%, and then took a full four years to fully recover all the losses during the financial crisis.

Consistently Above Key Levels

Since the turn of the century, the 200-week moving average of the S&P 500 Index has been the strongest technical key indicator for the index. This benchmark index broke below this key level during the economic growth panic in 2016, the escalation of the US-China trade war in 2018, and the period of aggressive rate hikes by the Federal Reserve in 2022, but then quickly rebounded.

This time, during the August wave of summer selling, even at the lowest point, the index was far from reaching this critical technical threshold. Although this also indicates the possibility of further declines in a potential new round of selling, it largely implies that investors have enough confidence to believe that this round of adjustment has bottomed out, and therefore choose to buy heavily on dips before the market tests new lows in order to catch up with the "bull market train" in time. This is also one of the logics behind the recent significant rebound of the S&P 500 Index

Japan's Comprehensive Rebound

The Japanese stock market, at the center of global turmoil, saw its currency policy tighten, leading to the yen exchange rate reaching one of the highest levels this year. This prompted hedge funds to sell high-liquidity risk assets such as stocks to unwind yen carry trade positions dominated by low-cost yen financing.

When the yen appreciates rapidly, the risk of this carry trade significantly increases. As they borrowed in yen, leveraged forex traders must buy back yen at a higher price to repay the loan if the yen appreciates. This can result in a significant reduction in their actual returns, or even substantial losses.

At the same time, when the yen exchange rate appreciates rapidly, traders typically choose to quickly close out positions to offset potential losses. This means selling a large amount of high-liquidity stocks and junk bonds, among other risk assets, to buy back yen. Additionally, as the yen is traditionally considered a safe-haven currency, some traders may sell risk assets on a larger scale to buy yen to hedge risks in the global market turmoil. This led to a vicious cycle of selling stocks and other risk assets last Monday, causing the entire financial market to plunge.

Currently, with Bank of Japan Deputy Governor Masayoshi Ueda calming market sentiment with a statement emphasizing that the Bank of Japan will not choose to continue raising policy rates in unstable market conditions, the yen exchange rate is declining overall. Policymakers at the Bank of Japan and the Japanese government have recently assured the market that the possibility of further rate hikes in the short term has been ruled out. This has also affected the Japanese stock market, as the depreciation of the yen has prompted foreign capital to continue flowing into the Japanese market, driving the Japanese stock market to completely recover from the sell-off triggered by "Black Monday."

Warning Signals Still Exist

On the other hand, the economic risks of the Federal Reserve delaying interest rate cuts have not disappeared. Therefore, the recent rebound implies that more expectations of a US economic "soft landing" triggered by rate cuts are being digested. If proven wrong, the market will face another significant pullback.

Market pricing indicators that investors rely on can be seen in the underperformance of stocks closely related to the economic cycle (known as cyclical industries) relative to their lower-risk peers.

A basket of stock indices compiled by Wall Street giant Goldman Sachs shows that although cyclical stocks have recently lagged behind defensive stocks, indicating that the market is still pricing in a pessimistic expectation of a "US economic recession," the positive aspect is that their trading prices are still based on expectations of economic expansion

On Thursday, the unexpectedly large increase in US retail sales greatly confirmed the view of a soft landing. However, previous data also indicate that job growth is cooling down and manufacturing activity is decreasing.

Matt Stucky, Chief Equity Portfolio Manager at Northwestern Mutual Wealth Management, said, "I'm not trying to cause panic, but compared to other asset classes, the S&P 500 seems to have only digested a small amount of uncertainty."

Share buyback size and profit expectations may drive the S&P 500 into a bull market

In the eyes of Wall Street bulls, the incredibly strong stock buyback size of US companies and the continuous expansion of profit growth expectations are expected to support the sustained strength of US and global stock markets in a bull market.

As the US stock market experienced its most severe pullback since October last year last week, US listed companies were among the big buyers buying on dips. During the four consecutive weeks of decline in the S&P 500, Goldman Sachs' department responsible for executing stock buybacks received record orders, with trading volume soaring to 2.1 times the daily average level of last year. Corporate clients of Bank of America also sparked a buying frenzy, with their stock buyback pace accelerating, remaining above seasonal levels for 22 consecutive weeks.

As the second quarter earnings season comes to an end, major listed companies are emerging from a period of silence in buybacks. From the announced plans, their demand will remain strong. This is good news for retail or institutional investors looking to buy stocks during the summer pullback.

Goldman Sachs' trading department expects the cumulative actual stock buyback size of S&P 500 constituent companies for the year to be approximately $960 billion, and anticipates that the cumulative stock buyback size by 2025 will grow by over 15% to about $1.1 trillion. Since entering a "technical bull market" in 2023, US stocks continued to surge in 2024, and such a massive buyback size will undoubtedly be one of the core catalysts for the bull market trend of US stocks.

Goldman Sachs predicts that the stock buyback size in the US stock market will exceed $1 trillion for the first time in 2025, mainly driven by the resilience of the US economy, strong profit growth trends of large tech companies such as Apple, NVIDIA, Microsoft, and Google, and the optimistic outlook for the global financial environment due to the Fed's interest rate cuts seeking easing compared to the past two years.

Upward revisions in profit expectations will also be an important driver for the continued upward trend of US stocks. Data compiled by FactSet Research on Wall Street analysts' expectations show that for the fourth quarter of 2024, analysts generally expect a 15.7% increase in earnings per share (EPS) for S&P 500 constituent companies, and a 5.4% increase in revenue. For the entire year of 2025, analysts expect a 15.2% increase in EPS for the S&P 500, with revenue expected to increase by 6.0% Evercore ISI, which has been bearish on the US stock market in the long term, recently completely reversed its stance and turned bullish on the future of the US stock market. The firm's strategists predict that by the end of 2024, the US stock market will once again see double-digit growth, with the S&P 500 index setting record after record. Julian Emanuel, Chief Equity and Quantitative Strategist at Evercore ISI, has significantly raised the firm's year-end forecast for the S&P 500 index to 6000 points. As of the Thursday close of the US stock market, the index closed at 5543.22 points.

Evercore ISI emphasizes that receding inflation and the artificial intelligence boom led by tech giants will further drive the US stock market higher. "Today, the potential of artificial intelligence is positively changing every job and every industry. Slowing inflation, expected interest rate cuts by the Federal Reserve, and the anticipation of an economic soft landing support the 'golden-haired girl' economy."

Stock strategists from Deutsche Bank also choose to be bullish on the future market of US stocks. The firm recently raised its year-end target for the S&P 500 index from the previous 5100 points to 5500 points, emphasizing that there is significant "upward momentum" in this target. "If market consensus expectations continue to rise, and if the US economy once again exceeds expectations for growth this year, some believe this could be the beginning of a prosperous period for US labor productivity with the assistance of AI. It is not difficult to see the S&P 500 index reaching 6000 points," Deutsche Bank strategists stated in their report