The government shutdown continues, but likely will end shortly. Polls question who’s to blame but the right response is that Americans universally either don’t care or they are fed up with both sides. Neither Republicans nor Democrats are going to earn brownie points for keeping the government shut down. The last time this happened for any length of time during Trump’s first term, the end came when chaos came to the airports. That might happen again as soon as this week. 42 million Americans losing SNAP benefits or soldiers not getting paid won’t endear voters. Thus, it will end soon.
Economically, the shutdown matters little. Whatever negative impact there has been for the past 30 days will be recovered when government workers get and spend back pay. There may be noise about firings of some furloughed workers but Americans are angry enough; this isn’t the moment in front of the holiday season to try and increase the pain threshold.
Amid all this, the NASDAQ closed out October with another gain, the seventh monthly gain in a row, the longest such streak since 2018. There are lots of reasons for optimism. GDP forecasts suggest Q3 growth may have exceeded 3%. The Fed just cut interest rates again and most forecasters suggest another cut in December. Unemployment has stayed low although there have been increasing signs that companies are starting to pare their workforces, trying to increase productivity to offset higher costs from tariffs and other inflationary forces. With hiring weak, wage growth, particularly at the lower income levels, is struggling to keep up with inflation.
The letter K has been used increasingly to describe both the economy and the stock market. The letter has a vertical line connected with two forks, one pointing up and to the right with other similarly pointing down. In economic terms the upward pointing fork describes the fortunes of those with money to own homes and equities. With stocks at record highs, they are happy campers and willing spenders. But, on the other hand, those who don’t own stocks and are shut out from the housing market for affordability reasons are struggling. Their debt levels are rising and they increasingly lean on credit to support their life styles. They are trading down wherever they can.
K also describes the stock market. Anything touching AI, including companies supporting the necessary infrastructure, are basking in glory. Tech giants are investing sums never heard of before to build the capacity needed to perform all the wonderous AI task. With that said, AI adoption isn’t keeping pace quite yet. Virtually all companies are dabbling but few are making major investments yet to structurally change their businesses. To be sure, there are some leading-edge applications that demonstrate what’s to come. Just a few years ago, students were learning to code as a pathway to a bright future. Today, much of that coding is done by computers using AI techniques. Coders need to look elsewhere for employment. Call centers are using computers more and humans less as the computers become more sophisticated and more capable of answering queries. Are they better than humans yet? Not quite. But the gap is closing and within a very short time, they will provide better outcomes. AI is used in more sophisticated settings as well today. Drug companies use it extensively to find new cures and speed the intricate process of getting approvals through the FDA. Lawyers can construct the outlines of legal documents in minutes, not days. What’s different this time in a world of changing technology is the speed of change, but, seismic change still takes time. Five years ago, Tesla bulls predicted that by 2025, 50% of cars sold in the U.S. would be electric. 5% would have been more accurate. In time, electric cars will dominate. Once the changeover comes, it will come rapidly. Digital photography is a perfect example. For now, however, an all-electric automobile world is still in the future. AI promise is for real, but not for all things and not by tomorrow.
One question is whether all hundreds of billions of capex dollars is too much too soon? Maybe, but whereas in the late 1990s as the Internet bubble grew, companies were building for expected demand, today companies are spending because they can’t meet demand. There may be a short-term bubble but it won’t be like 2000. What will be similar though is that every hot shot AI company that Wall Street embraces won’t be a winner. There will be spectacular losers as the AI world evolves. More about that in a moment.
Back to the letter K. The AI boom embraces the fork pointing up and to the right. But if one subtracts all the attendant capex and spending associated with AI, the rest of the economy isn’t exactly soaring. As noted earlier, a good part of our population is struggling to stay even. Retailers are a mixed bag with the big 3, Wal-Mart#, Amazon#, and Costco# still doing well while many of the rest attempt to stay even. In manufacturing, business is good if it is AI infrastructure related. Trump wants to see more reshoring but it’s too early for that. The rest are coping, barely growing. Healthcare feels governmental pressure to put a lid on costs. Health insurance premiums may rise over 20% in 2026, particularly if government subsidies are allowed to expire on 12/31. Americans are trading down when it comes to food and clothing. The wealthy continue to travel, but middle-class leisure demand is pressured. Housing is in the toilet. Public homebuilders are doing OK because of a lack of quality for-sale inventory but companies selling goods and services for homeowners face headwinds.
And that leads me to last week’s earnings results when five of the Mag 7 reported. While the stocks bounced around for the most part, the message, at least to me, is that there wasn’t an apparent catalyst for another significant leg up, at least not now. Amazon did well because Amazon Web Services increased its growth at bit more than expected after several disappointing quarters. Year-to-date, its stock has underperformed the S&P 500. Ditto Apple# which has rallied robustly in recent weeks amid surprising acceptance of its new iPhone but still lags the market YTD. The big loser last week was Meta Platforms, down more than 11% the day after its earnings release. While AI improvements have helped its existing core businesses (e.g. Facebook and Instagram), its push to be a leading source for large language models has stumbled a bit. It has started to spend heavily to bring in star talent, but just as the Yankees and Mets spent big and stumbled (sorry New Yorkers but I couldn’t help myself), the jury is still out whether Meta can jump into the top tier. Its shares are also lagging the market overall this year. The one standout was Alphabet# perhaps in part because expectations were suppressed earlier this year amid perceived competition from ChatGPT and worries about a threatened government breakup.
The bottom line in my head is not to expect a reacceleration in these stocks, at least for now. Perhaps their stock prices can keep up with earnings but the outsized gains of 2023-2024 are not destined to be repeated.
Thus, if this bull run is going to continue, leadership will have to come from somewhere else. This year we have seen leadership from other tech names besides the Mag 7. We have seen outsized gains from companies that supply power generation equipment. Power will be a gating factor to AI growth. Banks have done very well as credit risks remain subdued and days of inverted yield curves fade into memory. In addition, President Trump is much more business friendly than Joe Biden was. Lina Khan where are you? Insurance companies were helped by a lack of big catastrophes.
2026 is an election year. Tomorrow’s races may give some hints but it is too early for those results to have much meaning. Americans, as always, will vote with their wallets. The keys, therefore, will be where inflation stands next fall, what will be the state of the job market, and whether life in general is better or worse than it is now. Higher health insurance costs clearly will be a factor, as will surging utility expenses. The Fed more than likely will be accommodative, presuming that inflation doesn’t resurface and 10-year bond yields remain rangebound.
Corporate revenue growth has been pretty much in line with GDP growth. No real surprise there. What has been a bit of a surprise is the ability of managements to improve margins even against a backdrop of uneven demand, a weak dollar, and tariffs. While layoffs have been few so far, company headcount has fallen via attrition. Companies are doing more with less. It would be nice to credit AI with this and that’s some of it to be sure. But a lot has to do with changing behaviors since Covid. When supply chains led to inflation and workers were able to bounce from job to job, companies became very protective of their skilled labor forces. But as costs began to pinch and demand stabilized, behaviors changed. No more retention payments. Indeed, many of today’s reductions are happening at the white-collar level. AI can’t replace a truck driver, wash dishes or pick crops, at least not yet. But it can do some, if not a lot, of lower-level white collar tasks. That trend is likely to continue. If our economy is going to be robust in 2026, it will have to be on the heels of productivity improvement. That’s promising but hardly assured as most potential AI benefits will probably be felt beyond 2026. What needs to continue is a rightsizing of corporate labor forces. Amazon’s layoffs last week made headlines but even larger cuts at UPS told the proper tale.
In President Trump’s first term, he passed a big tax bill in his first year and little after that. While he spoke in favor of blowing up the filibuster rules over the weekend, that will be a tough sell even among Republicans in the Senate. Our economy is built on the back of long-term investments. If the filibuster rule is gone, every change in power in Congress will bring big changes that will disrupt the investment spending calculus. That’s bad and almost everyone in the Senate knows that. Hopefully, this government shutdown will end soon because it should, not because of a change in rules that have worked so well for decades. In any case, do not expect any further significant legislation during Trump’s remaining years. Whatever he does will continue to be by Executive Order. No one should be surprised by that observation.
Today, Roseanne Barr is 73. Fashion icon Anna Wintour and former heavyweight champion Larry Holmes both turn 76. Finally, former tennis star Roy Emerson is a robust 89.
James M. Meyer, CFA 610-260-2220