Return of 'Animal Spirits'

Bottom line

Republicans successfully ran the table two weeks ago, which we believe enhances the prospect that President Trump's signature 2017 corporate and individual tax cuts will be made permanent when they come up for renewal next year. Investors hate uncertainty. With this contentious election now behind us, many businesses and consumers seem to be more confident, an eventuality that the financial markets began to discount over the past several months. We think this may be a reawakening of "Animal Spirits," a concept economist John Maynard Keynes put forth in the 1930s to describe how consumers' view of the economy is often based on feelings, not data. The Online survey firm Morning Consult says consumer sentiment among Republicans has soared 30% since the election, as they now feel better about the economy than at any time in the last four years. Sentiment among Democrats, however, has declined by 13% since election day, its lowest level since early 2023. Voter demographics have shifted significantly over the past 16 years. Republicans and right-leaning independents now account for 51% of voters, according to Gallup, while Democrats and left-leaning independents total 45%. So, we expect that on balance, overall sentiment has improved by about 10%.

Fiscal policy matters Deregulation and lower tax rates stemming from Trump's policies by the end of 2025 should work their way through the economy in subsequent years, boosting growth. As a result, Federated Hermes recently made our 2027 forecast for S&P 500 corporate profits at $350, up from consensus estimates of $310 in 2026 and $275 in 2025. That lifts our target price for the S&P 500 to 7,500 by year-end 2026, up from 7,000 by the end of next year.

Solid third-quarter results We're 90% through the third-quarter reporting period, and revenues and earnings have risen by a healthy 5% and 6%, respectively, on a year-over-year (y/y) basis. FactSet had expected S&P 500 revenues to grow by 4.7% y/y and earnings by 4.6% y/y beforehand, so most companies are beating estimates, with rising profit margins.

Business and consumer confidence have improved recently:

• NAHB Housing Market Index of builder confidence rose from an eight-month low of 39 in August to a seven-month high of 46 in November.
• Conference Board's Consumer Confidence Index rose from a two-year low of 97.8 in June to 108.7 in October. November is expected to soar to 113.
• University of Michigan Consumer Sentiment Index leapt from an eight-month low of 66.4 in July to a preliminary seven-month high of 73 in November, which is expected to increase to 74 when finalized.
• NFIB Small Business Optimism Index increased from a 12-year low of 88.5 in March to a more than two-year high of 93.7 in October.
• ISM Services Index soared from a four-year low of 48.8 in June to a more than two-year high of 56 in October.

Wealth effect a boon New and existing home prices have soared 50% and 60%, respectively, from their pandemic troughs, and 64% of Americans own their own homes. The S&P 500 has surged by nearly 47% from late October 2023 to last week's record high, and 60% of Americans own stocks in their retirement and college-savings plans. So, with the economic top half of the US-as measured by income and wealth-flush and confident, that's helping to drive stronger consumption in recent months. The top 20% of America disproportionately accounts for 40% of consumer spending.

Retail sales strengthening Headline retail sales in October were slightly stronger than expected, rising 0.4% month-over-month (m/m), consensus was for a 0.3% gain, compared with an 0.8% increase in September, which was revised up from a 0.4% gain. August declined 0.1%.

Control results (which exclude spending on food, gas, autos and building materials, and are a direct input into the Commerce Department's GDP calculations) slipped 0.1% m/m in October (consensus gain of 0.3% was expected), versus a 1.2% m/m increase in September (revised up from a 0.7% gain). August lost 0.2%.

Hurricane impact Due to the tragic destruction of Hurricanes Milton and Helene, auto sales soared 1.6% m/m, while building materials rose 0.5%. Electronics leapt 2.3%, as consumers got an early jump on their holiday spending, while restaurants and bars posted a strong 0.7% m/m gain.

Will holiday spending follow Back-to-School and Marpril results? Back-to-School (BTS) spending for the four months from June through September rose only 2.2% y/y, marking the weakest BTS season in 15 years. The March-April Easter season rose 3.2% y/y in 2024. These are important leading indicators for the holiday shopping season, whose retail sales growth is usually 73% positively correlated, excluding the impact of extreme weather conditions. The period in 2023 was up only 2.7% y/y, the weakest holiday season in five years, but October 2024 has increased by 2.9% y/y.

The National Retail Federation, a key industry trade group, expectes 2.5-3.5% sales growth during November and December 2024. Similarly, Deloitte projects 2.3% to 3.3% sales from November through January.