ECONOMIC HIGHLIGHTS

• Midterm election headlines have generated volatility, but fundamentals remain more important for long-term investors. Historical experience reinforces the importance of earnings, inflation, growth, and monetary policy rather than election outcomes alone.
• Economic growth remains positive, but momentum is showing signs of moderating. Manufacturing and employment continue to support expansion, while restrictive financial conditions and weakness in rate-sensitive sectors point toward potentially slower growth.
• The labor market remains an important source of stability. October payrolls increased by 165,000, prior months were revised higher, unemployment edged down to 4.1%, and wage growth remained positive.
• Manufacturing continues to improve. The ISM Manufacturing Index rose to 55.5 in October.
• Capital spending remains a key engine of growth. Technology, AI infrastructure, data centers, and related power investment continue to support economic activity and corporate revenues.
• Consumer fundamentals remain supported by employment and income, but the backdrop is becoming less favorable. Higher borrowing costs and fading policy support are creating more pressure on rate-sensitive and lower-income households.
• Housing remains one of the clearest areas of economic weakness. Elevated financing costs continue to constrain affordability, transactions, and construction as restrictive monetary policy works through interest-rate-sensitive sectors.
• Federal Reserve policy remains restrictive. Policymakers continue to balance above-target inflation against increasing evidence that higher rates are restraining housing, credit, and other rate-sensitive activity.
• Credit conditions remain generally consistent with continued expansion. Higher rates are creating pockets of stress, but broader credit-market indicators have not deteriorated enough to suggest an imminent recession.
• Corporate earnings remain an important counterweight to slower economic momentum. Approximately 58% of S&P 500 companies are generating year-over-year earnings growth of at least 10%.

The Durability of the AI Investment Cycle Deserves Closer Attention: The principal risk is not that AI-related spending is weak, but that exceptionally strong investment growth becomes harder to sustain. Recent technology-market volatility and signs of data-center project delays and cancellations suggest that investors and businesses are becoming more selective. A moderation in this cycle would narrow one of the economy’s most important sources of support.

Consumer and Housing Conditions Are Becoming Less Favorable: Employment and income continue to support consumer fundamentals, but higher borrowing costs and waning policy support are putting more pressure on rate-sensitive and lower-income households. Housing remains one of the clearest weak points, as elevated financing costs constrain affordability, transactions, and construction.

Bottom Line: The economic backdrop remains consistent with continued expansion, but growth is increasingly reliant on manufacturing, business investment, and AI-related capital spending. Labor conditions and generally contained credit stress remain supportive, while housing, uneven consumer conditions, restrictive financial policy, and questions about the durability of the AI investment cycle have narrowed the margin for error. Current evidence continues to favor a mid-cycle slowdown rather than a recession.

Policy Is Restrictive: The Federal Reserve held rates unchanged at its October 28 meeting, with the federal funds rate at 4.00%–4.25%. However, a third consecutive month of hotter-than-expected inflation has reopened the debate over additional rate increases, with multiple officials signaling a December hike and a 50-basis-point move under active discussion. The question is no longer simply how long restrictive settings should remain in place, but whether further tightening is necessary.

The Fed Remains Data-Dependent: Resilient employment and manufacturing reduce the urgency to ease, while softer housing, consumer credit, and select financial indicators argue against an aggressive tightening path. The result is a meeting-by-meeting approach in which inflation, labor conditions, and financial stability carry greater weight than predetermined guidance.

Inflation Keeps Near-Term Easing Off the Table: October CPI rose 0.4% month-over-month on a headline basis and 0.3% on a core basis — hotter than expected for the third consecutive month. Services inflation, energy costs, and trade-related uncertainty continue to complicate the outlook. NY Fed survey data show that 1-year inflation expectations remain elevated at 3.9%. Policymakers will likely need sustained evidence of improvement before materially easing restraint.

Long-Term Yields Reflect More Than the Fed: Longer-term Treasury yields are being shaped by resilient nominal growth, inflation uncertainty, the term premium, and substantial government financing needs, with the 10-year yield at about 5.0% after early November’s CPI-driven selloff. As a result, long yields may remain elevated even if the Federal Reserve eventually stabilizes or reduces the policy rate.

Bottom Line: The Federal Reserve is navigating a more complex phase of the tightening cycle than previously anticipated. A third consecutive month of inflation above forecast has reopened the question of additional rate increases, with a December hike now widely expected. Labor conditions and resilient growth limit the case for rapid easing, while the Democratic sweep of Congress introduces a new fiscal and political backdrop. The most likely path is continued restrictive policy, with long-term borrowing costs remaining influenced by Treasury supply, fiscal conditions, and the term premium as much as by the federal funds rate.

Profit Strength Extends Beyond Mega-Cap Technology: Technology remains an important earnings driver, but profit participation has broadened across the index, with beats across hardware and semiconductors, software, health care, utilities, and industrials. This diversification is constructive because it reduces reliance on a small number of companies and provides a firmer fundamental base during periods of technology-market volatility.

Margins Remain Historically Strong: Healthy pricing, productivity, operating discipline, and a mix of earnings toward higher-margin businesses continue to support corporate margins. Elevated financing, energy, labor, and trade-related costs remain risks, but current profitability does not yet signal broad margin compression.

AI Infrastructure Continues to Support Corporate Activity: Data-center construction spending has surged well above that of traditional office construction — surpassing it for the first time at the end of 2025 — supporting revenues across semiconductors, utilities, electrical equipment, industrial construction, cloud infrastructure, and financing. This breadth of spending helps explain why the AI investment cycle is influencing activity well beyond the technology sector.

The Productivity Payoff Is Emerging, but More Investment May Be Needed: Nonfarm business productivity accelerated to a 3.6% annualized rate in the third quarter — the fastest pace in a year — suggesting that capital spending is beginning to translate into measurable efficiency gains. The recent improvement supports the case that technology investment is yielding real economic benefits. Sustaining that trend will require continued deployment, adoption, and monetization, not capital spending alone.

Valuations Leave Less Room for Disappointment: Strong earnings support equities, but elevated valuations raise the hurdle for further gains. The S&P 500’s trailing P/E of 25.6x is above its five-year average of 23.9x, and price-to-book and price-to-sales ratios are near five-year highs. Market reaction to earnings beats has been notably muted. This environment favors selectivity over assuming broad multiple expansion.

Bottom Line: Corporate profitability remains a strong support for the economic and market outlook. Earnings growth is broad, at about 26% year-over-year, margins remain healthy, and AI-related capital spending continues to lift revenues and investment. However, elevated valuations and the scale of technology capital commitments have raised the bar for future results. The outlook remains constructive, but future market gains will likely depend more on realized earnings and cash-flow returns than on further valuation expansion.