The midterm elections are approaching as yet another potential source of turbulence. Wall Street endured a volatile week, with investors worried about surging oil prices and AI-related corporate spending, actively seeking defensive sectors as a haven from tech stock volatility. In the coming week, the market will face multiple tests from a large batch of earnings reports and the Federal Reserve's interest rate policy meeting. Capital will continue to weigh the soaring costs of AI investment against the risk of unclear return timelines, and the approaching midterm elections represent yet another potential source of turbulence.
The Fed may hit the pause button
Major US data this week continued to show an economy expanding but with elevated price pressures. The S&P Global October Purchasing Managers' Index (PMI) showed that US private sector growth slowed, but employment rose, with selling prices rising at the fastest pace since August 2022. S&P Global Chief Economist Chris Williamson believes the data shows the US economy continued to boom in early Q4, with output trends matching annualized GDP growth of 5%, the strongest level since early 2015 excluding pandemic shocks; however, corporate order backlogs rose the most since May 2022, with supply chain bottlenecks and labor shortages intensifying, pushing corporate selling prices up the sharpest in four years, which will further elevate inflation pressures ahead. The University of Michigan consumer survey showed that October US consumer confidence fell to a five-month low, with inflation expectations rising to the highest since May. One-year inflation expectations stood at 4.7%, and 5-to-10-year long-term inflation expectations at 3.5%, indicating that both short-term and long-term inflation expectations have not declined at all, with inflation stickiness far exceeding the Fed's previous policy targets, further heating up market concerns that inflation is easy to rise but hard to fall. Bob Schwartz, senior economist at Oxford Economics, told Yicai in an interview that "consumer assessments of current conditions have worsened due to higher gasoline prices. Respondents generally believe the economy is worse now than in early summer. The risk remains that higher energy costs could pass through to overall inflation pressure, which we expect will prompt the Fed to maintain a hawkish stance in the coming months."
With the Fed meeting scheduled for next week, the prospect of further rate hikes has also become a focus. According to London Stock Exchange Group (LSEG) data, after the Fed hiked rates in September for the first time since 2023 to control above-target inflation, the probability of another hike this month is only about 10%. However, the market leans toward a hike at the next meeting in December, with futures showing about an 80% probability. PIMCO, the world's largest bond asset manager, believes the Fed will hold steady next week while retaining a clear tightening bias, without releasing any dovish signals, and will clearly convey to the market that "further rate hikes remain possible." Currently, rising long-end US Treasury yields have partially offset the easing of financial conditions brought by the strong US stock market. The Fed can first observe the transmission effects of higher rates on the economy before deciding its next move; meanwhile, the AI industry's pull on aggregate demand continues to exceed expectations, and the Fed will not easily abandon its tightening stance. The most likely next move is a 25 basis point hike in December. Schwartz told Yicai that "even if the Fed does not act next week, we still expect an additional 50 basis points of tightening, most likely in December and March next year. However, the risk is that because the economy has become less sensitive to rising rates, the central bank may have to hit the brakes harder than expected." He believes monetary tightening will only deepen the obvious divergence in traditionally rate-sensitive sectors of the economy. The housing market is going from bad to worse, while corporate investment is benefiting from AI, military spending, and other positive factors. This divergence is not expected to disappear in the short term.
When will the market stabilize?
This week, the three major US stock indices showed divergence, with tech stocks dragging the Nasdaq lower, the S&P 500 posting a second consecutive weekly decline, while the Dow Jones rose 0.4% for a third straight weekly gain. Dow Jones market statistics show that recent declines were mainly concentrated in four of the S&P 500's 11 sectors. Communication services fell 6.2%, industrials dropped 1.9%, and tech and materials also edged lower. On the upside, energy and healthcare led gains, rising 1.55% and 1.45% respectively. Real estate, utilities, financials, consumer discretionary, and consumer staples also edged higher. Investors pulled out of AI trades after Meta, Tesla, and Netflix reported earnings, sending two-year, ten-year, and thirty-year Treasury yields lower. BMO said in a report: "The fading heat of AI trades has triggered broad market rotation." Financial institution D.A. Davidson believes investors continue to assess the recent selloff in AI-related stocks, worried about the enormous capital demands in the sector. Next week, market focus remains on earnings season, with strong corporate profit growth supporting this year's gains in major stock indices. According to London Stock Exchange data, S&P 500 companies' Q3 earnings are expected to grow more than 32%. About one-third of S&P 500 companies will report quarterly results over the next five trading days, including Alphabet, Microsoft, and Amazon — the three AI hyperscalers whose capital expenditure forecasts will be closely watched by Wall Street. JPMorgan global market strategist Nicholas Panigirtzoglou's team noted that hedge funds have significantly reduced equity risk exposure, the long positions that previously drove the AI rally have largely been unwound, and momentum investors' positioning adjustments are nearing completion. The pressure for further concentrated selling has clearly weakened, and the risk of a short-term crash has dropped substantially. The current performance of the semiconductor sector is the core bellwether for market risk appetite, accounting for 21% of hedge funds' related risk capital. Its earnings performance will directly determine the strength of next week's tech stock rebound; even if some small and mid-sized cloud providers face financing pressure, it will not shake the entire AI industry's growth cycle, and leading tech companies are fully capable of absorbing related computing power demand. Bank of America recommends investors maintain a tactical risk-off stance until mid-November. Michael Hartnett, BofA's chief strategist known as "Wall Street's most accurate analyst," judges that earnings anxiety around AI trades and uncertainty over US midterm elections will continue to weigh on market sentiment. Next week, US stocks will likely extend a volatile and weak pattern until risks are fully released by mid-November, when a clear reversal window will emerge. He specifically noted that global investors' tech stock exposure has reached its highest level since August 2020, with capital still flowing into the tech sector, but the market has not yet completed the switch from "chasing AI trades" to "fully exiting AI." If next week's tech giant earnings disappoint, it could easily trigger concentrated profit-taking.
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