Concerns About the Sustainability of the US Stock Market Rally
With the US stock market racking up significant gains, investors have plenty of reason to be happy. However, some on Wall Street are worried that the stock market's 2025 run-up may be running out of steam.
US stocks have notched fresh record highs, interest rates are headed down, and earnings growth remains robust. Plus, tax cuts are expected to pad corporate coffers. Analysts are racing to boost their year-end targets for the S&P 500. But the rally has gone so far that some investors are starting to wonder if it's “too good to be true.”
October is traditionally also a difficult month for stocks, and many investors see signs of overheating, from speculative surges in meme stocks to stretched corporate valuations, that could presage a pullback.
“The characteristics of this rally do make me a little bit nervous. It does feel a little bit late-cycle,” said Nate Thooft, chief investment officer of equities and multi-asset solutions at Manulife Investment Management.
Solid Foundations Underpinning the Rally
Many believe this rally at least originated from solid foundations. The economy has proven resilient. The labor market is cooling but not collapsing, and trade wars haven’t sparked a significant resurgence in inflation. Analysts now believe a tariff-induced recession is unlikely, which has helped propel the S&P 500 to a 13% gain so far this year. The Dow Jones Industrial Average and Nasdaq Composite have climbed 9% and 17%, respectively.
The rally has also extended to beaten-down stocks that stand to benefit from lower borrowing costs. The Russell 2000 index, which tracks smaller US companies, recently closed at its first record high since 2021.
Pressure in the bond market has also eased, as the prospect of more interest rate cuts has helped buoy government bond prices. That has pushed the 10-year US Treasury yield, a key benchmark for borrowing costs for individuals and companies, down to 4.14%, according to Tradeweb, below where it was at the end of June. Corporate bonds have also rallied, with the extra premium investors demand to hold corporate bonds instead of risk-free government bonds shrinking to the lowest level in decades.
Signs of a Bubble?
Some, however, worry that the S&P 500's 28 record highs this year are stoking the kind of froth that often precedes the end of a rally. For example, retail traders are driving a wave of speculation reminiscent of 2021. Opendoor Technologies, a real estate tech platform and representative of a new class of meme stock, has soared 413% this year and at one point accounted for 13% of the entire US stock market's daily trading volume, according to Dow Jones Market Data.
Another concern: the revival of special-purpose acquisition companies (SPACs). A SPAC is a shell company that raises money and trades on a stock exchange, with the sole purpose of merging with a private company and taking it public.
More than 90 SPACs have raised roughly $20 billion so far this year, the highest annual number and fundraising total since 2021, according to SPACInsider. Not long after that, the Federal Reserve’s anti-inflation campaign triggered a collapse that wiped out hundreds of billions of dollars in their market value.
At the same time, new companies listing through more traditional routes have seen their share prices jump an average of about 34% in their first day of trading this year, the best average gain since at least 2000, said Callie Cox, chief market strategist at Ritholtz Wealth Management.
Meanwhile, the dizzying run-up in artificial intelligence stocks is fueling bubble concerns. The “Magnificent Seven” tech stocks—Alphabet, Amazon, Apple, Meta Platforms, Microsoft, Nvidia and Tesla—recently accounted for about 37% of the S&P 500's market capitalization, the highest share on record.
Inflation and Trade Policy Risks
Adding to investor anxiety, some are warning that Trump’s tariffs will ultimately fuel a resurgence in inflation, potentially derailing the Federal Reserve’s rate-cutting path and exacerbating the squeeze on US consumers.
Mary Ann Bartels, chief investment strategist at Sanctuary Wealth, said she believes that if inflation shows signs of heating up and triggers a rebound in Treasury yields, stocks could fall 5% to 10% in the coming months.
Those anxieties have shown up in the lackluster performance of transportation stocks, which track the railroad and air freight companies that power the economy. The Dow Jones Transportation Average is down 0.8% this year, a sign that investors anticipate weaker demand for goods, raw materials and travel.
While gold futures, often seen as an inflation hedge and a safe haven for nervous investors, are on track for their best first three quarters of the year since 1979, silver futures have surged 61%, nearing a record of their own.
Stretched stock valuations are also casting a shadow over the booming rally. Companies in the S&P 500 are now the most expensive on record based on four different metrics, according to Bank of America.
That is driving some investors to search for bargains, helping to broaden the market's concentration beyond pricey industries. Bob Doll, chief executive officer at Crossmark Global Investments, said his firm holds shares of companies that are cheap and have solid earnings based on a price-to-earnings-to-free-cash-flow ratio, such as financial stocks. “We’re in a high-risk bull market,” Doll said.
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