Upon reassessing our subjective probabilities for three alternative outlooks for the U.S. economy and markets, we’re sitting pat. Our base-case scenario (55% chance) remains the “Roaring 2020s.” Supporting that scenario: baby boomers are flush with wealth and are spending it.
We regularly assess the subjective probabilities that we assign to these three scenarios: the Roaring 2020s (55%), the “Meltup 1990s” (25%), and “Stagflationary 1970s” (20%). This last scenario, with the lowest probability currently, is our what-could-go-wrong “bucket.”
Our main concern since early 2022 was that geopolitical crises might cause oil prices to soar, as occurred during the 1970s. Along the way, we have included other potential bearish developments for the economy, as well as for the bond and stock markets, such as overly restrictive monetary policy, a U.S. debt crisis, a Chinese debt crisis, and more recently tariff and currency wars.
The U.S. Federal Reserve has been easing since last September and is leaning toward easing some more. Oil prices have remained amazingly subdued despite the conflicts in the Middle East and the war between Russia and Ukraine. Oil prices have increased recently after the outgoing Biden administration toughened sanctions on Russian oil exports, but the Trump administration is expected to boost U.S. oil production. The latest ceasefire agreement between Israel and Hamas is in place.
Meanwhile, last week’s drop in Treasury bond yields suggests that a U.S. debt crisis isn’t imminent. However, the Trump administration will likely announce hefty tariff hikes, especially on China. Recent stimulus measures by the Chinese government seem to have boosted China’s real GDP at the end of last year. During December, Chinese industrial production and real retail sales rose 6.2% and 3.7% year-over-year, respectively. Additional U.S. tariffs on Chinese imports could exacerbate China’s property-led economic woes.
On balance, we are thinking about reducing the odds of the bearish scenarios in our bucket of what could go wrong. We aren’t doing that yet, but if we do so, then we will most likely increase the odds of the meltup scenario, assuming that Federal Reserve Governor Christopher Waller’s dovish cooing last week represents the majority view of the Federal Reserve. As we’ve been saying since August of last year, the Fed shouldn’t be stimulating an economy that doesn’t need to be stimulated. That’s especially so given that Trump 2.0 policies are only now about to be announced and may have lots of unanticipated consequences.
The bottom line is that we are still assigning a subjective probability of 80% to a continuation of the current bull market in stocks, with our S&P 500 SPX targets for 2025 and 2026 currently at 7,000 and 8,000.
The wealth effect is doing quite well
The consensus view among Fed officials seems to be that monetary policy remains restrictive, requiring more interest-rate cuts this year. This view doesn’t square with record-high stock and home prices.
The resulting positive wealth effect is undoubtedly boosting consumer spending, especially of retiring baby boomers, who are enjoying the windfalls in the value of their stock portfolios and homes.
Over the past 12 months through November 2024, the median existing home price is up 4.1%. Since the start of the COVID-19 pandemic in March 2020, it is up 47.3%.
Over the past 12 months through the end of December, the market capitalization of the S&P 500 is up 24.4%, and up 168.5% since the pandemic bottom on March 23, 2020.
The latest available quarterly data show that total U.S. household net worth was $168.8 trillion at the end of the third-quarter last year. Boomers accounted for about half of this total. There certainly never has been such a huge positive wealth effect affecting so many millions of people as the baby boomers now are enjoying in their retirement years. They’re likely to spend much of that wealth and leave what’s left to their progeny.
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