A new perspective on inflation trends will test U.S. stock market growth next week, as some investors expect a potential pullback after a sharp rise in stocks to record levels.
The S&P 500 index closed Friday up more than 8% for the year and is near historic highs, while the tech-heavy Nasdaq Composite hit a record level after stocks rebounded from a drop earlier in the month due to weak employment data.
Strategists at Deutsche Bank and Morgan Stanley warn that the market may face a correction after four months of significant gains that have led to historically high valuations, especially considering this period is traditionally volatile for stocks.
The monthly Consumer Price Index (CPI) report, due Tuesday, could cause volatility. Inflation data above expectations may shake investors’ hopes for future interest rate cuts.
Dominic Papallardo, chief strategist at Morningstar Wealth, believes the market is positioned for a slight pullback, as “deep down there is a lot of anxiety.”
The S&P 500 has risen 28% since April, when it hit a yearly low, after recession fears triggered by tariffs eased somewhat.
Currently, the index trades at a price-to-earnings (P/E) ratio above 22, significantly higher than its long-term average of 15.8.
Investors are also concerned about seasonal risks: over the past 35 years, August and September have been the worst months for the S&P 500, with average index declines of 0.6% and 0.8%, respectively.
Michael Wilson, a strategist at Morgan Stanley, warns that a combination of declining employment and inflation fears due to tariffs could lead to a correction in the seasonally weak third quarter. However, he maintains an optimistic 12-month outlook and recommends buying on dips.
According to a Reuters survey, the CPI for July is expected to rise 2.8% year-over-year. Investors are watching to see if tariffs on imported goods will impact further price increases.
Following recent weak employment data, bets on Federal Reserve interest rate cuts have increased. Fed funds futures show more than a 90% chance of a rate cut at the September meeting, with at least two cuts expected this year overall.