Rising US Expectations and “Reflexivity”
What happened last week?
The S&P 500 and Nasdaq gained 0.96%, and 3.34%, respectively, while the Dow slid by -0.60% after the US economy added a better-than-expected 227K jobs in November alongside a 4.2% unemployment rate and a 4.0% gain in wages from a year ago.
We remain optimistic on the economic and corporate earnings outlook for the coming two years. This is even as the incoming US administration is likely to drive higher levels of global market volatility with tariff pressures.
History suggests expectations are in fact better at predicting the future path of the economy than the ratings of current conditions. Combined with the stronger business confidence readings and likely path for business investment, the rise should be considered a potential upward risk for US growth forecasts for the coming year or more.
3 Things to Know
U.S. Consumers Increasingly Optimistic About the Future
During the past couple of months, US consumer expectations in the long-running University of Michigan survey surged.
By November, the gap between expectations and current conditions rose to the highest level in the survey’s 50 years of available data. “Current conditions” suddenly jumped in December in an early month preliminary reading.
History suggests expectations are in fact better at predicting the future path of the economy than the ratings of current conditions. Combined with the stronger business confidence readings and likely path for business investment, the rise should be considered a potential upward risk for US growth forecasts for the coming year or more.
With this noted, it is much easier to be disappointed when expectations are high.
As we’ve discussed in a recent CIO Bulletin, expectations that “onshoring” of manufacturing jobs will lead to stronger US factory employment largely miss the mark. Automation has had larger negative impacts on factory headcount than international trade.
The same is true of the agriculture, energy industries and many others. For those hoping for a return to the labor market of the past, there will be limits in available workers and US infrastructure to consider even away from automation.
Small Businesses Also Feel the Economy Is on the Right Path
Is the case for stronger business investment more than just stock market exuberance? We think an outlook for diminished regulation justifies stronger expectations for investment growth. The share of US small businesses surveyed by the National Federation of Independent Business expecting the economy to improve jumped 7 percentage points last month.
But this is not likely the endpoint for the rise. History suggests the full impact of US election results on growth expectations is not fully embedded in the early November survey data.
Following Donald Trump’s first election in 2016, this share of small business owners — who tend to be tax and regulation averse — surged 38 percentage points in December.
“Reflexivity”: Believing it Before You See It
“Reflexivity” theory suggests that investors base their decisions on perceptions and expectations that can be off the mark from reality. Nevertheless, their actions can have an impact on fundamentals that can then justify one’s original expectations in a self-fulfilling way.
Such dynamics have played a role in sovereign debt crises and “bank runs” for centuries. In the opposite way, they also can play a positive role in economic and market performance.
With all due respect to “reflexivity” and the “fear of missing out,” we see a strengthening case for diversifying to market segments with lower expectations after the gains of 2024.
As the 18th century poet Alexander Pope is credited with saying, “blessed is he who expects nothing, for he will never be disappointed.”
See our weekly CIO Strategy Bulletin for more details