Weaker Jobs Data, Lower Interest Rates: Earnings Are Abundant & Rotation Continues
The July labor report came in much weaker than expected, driving interest rates lower, while second-quarter productivity improved significantly and far exceeded expectations. Artificial intelligence (AI) may be an important contributor to these stronger productivity gains. Corporate earnings have been superb, driven by actual revenue growth. Margin debt (i.e., borrowing to buy stocks) likely eased in July as Technology stocks, particularly Semiconductors, pulled back. Even so, market rotation has broadened leadership and helped propel the S&P 500 to record highs — a seasonal pattern common during the summer months. The combination of market rotation and new highs indicates a strong bull market.
In July, we raised our year-end S&P 500 target to 8,225. From a technical perspective, the recent breakout to new highs points toward 7,900–8,000. We do expect volatility to continue, so maintaining a balanced portfolio remains as important as ever.
Earnings & Revenue Growth
Second-quarter results are mind-bending. Energy led all sectors with estimated year-to-year earnings growth of 147.0%, helped by elevated refining margins. Communication Services grew 117.0% on cloud and AI monetization gains, helped by Alphabet (GOOGL), while Information Technology grew at 70.4% on a clean sweep of earnings beats in Hardware and Semiconductors. Materials rose 41.7% on higher commodity prices and industrial demand. Healthcare lagged at -6.7%.
By the end of last week, 88% of S&P 500 companies had reported results. So far, overall earnings growth is running at 50.4%, an exceptionally strong pace, particularly given that the economy appears to be in the mid-to-late stage of the business cycle. That strength in corporate earnings growth provides a solid fundamental foundation for the market’s record highs, even as markets continue to navigate the conflict with Iran and the resulting higher oil prices.
The earnings surge is genuine. Revenue growth accelerated by nearly 5%, while profit margins expanded at one of the fastest rates excluding the pandemic and the Global Financial Crisis (GFC). Even after filtering out unrealized investment gains, the data continue to show robust underlying earnings growth.
We continue to believe the economy remains in the Inflation Boost phase, a concept we introduced in our May Monthly Report, in which moderate inflation supports pricing power, revenue growth, and ultimately stronger corporate earnings.
Labor Market & Productivity
- Surprising Softness: The July jobs report showed a loss of 23,000 positions against expectations of an 80,000 gain. Prior months were also revised lower. July seasonal adjustments are notoriously hard to model because of school calendars and summer patterns. The data also shows the unemployment rate remains low at 4.1%.
- Low-Hire, Low-Fire Dynamic: The data indicate a low-hire, low-fire environment rather than widespread layoffs. Emigration has replaced strong immigration flows. An aging population with Baby Boomers retiring continues to reduce the share of people working or looking for work.
- Rate Case Softens: This softens the case for near-term rate increases by the Federal Reserve (Fed). It also underscores the importance of productivity to economic growth.
- Productivity Surge: Second-quarter productivity rose 1.4% at an annualized rate, well above analysts’ expectations of 0.6%. We had anticipated continued improvement in productivity; many on Wall Street had not. We believe that AI is beginning to lift output per worker. Higher productivity helps companies grow profits without adding as many employees, supporting earnings strength.
Deleveraging, Speculation, & Sector Turning Points
Margin debt relative to the Wilshire Index climbed from 1.43% in September 2024 to 2.05% in June 2026, signaling increased speculation. As Technology stocks, particularly Semiconductors, corrected sharply during July, margin debt likely declined as investors reduced leverage. Even so, margin debt remains low relative to historical levels, which reduces the risk of forced selling during market stress.
Semiconductors Near A Turning Point Semiconductor stocks have experienced a 20%–30% correction driven by deleveraging. The sell-off has made valuations in the sector more attractive, and Semis now trade at a lower forward price-earnings multiple than the broader market. Semis responded to the short-term near oversold reading we highlighted last week. The weekly stochastic has not yet generated a buy signal, though we believe conditions are approaching one and remain bullish on the sector.
Metals and Mining Bottoming We believe Gold and Silver have bottomed. Copper continues to look stronger because of real demand from data-center construction, re-industrialization, and electric power needs. Industrial metals exposure offers a direct way to participate in physical demand tied to technology infrastructure.
Market Breadth & Global Outlook
The global secular bull market continues. The iShares MSCI EAFE ETF (EFA), which tracks developed markets outside the United States and Canada, has reached a new all-time high. The MSCI Emerging Markets ex-China Index (EMXC) remains in an uptrend following its recent correction.
Domestically, the Russell 2000 and the equal-weighted S&P 500 both hit new all-time highs. Sector rotation has lifted prices across more of the market while Technology and Semiconductors worked off earlier overbought positions. Broad participation provides a healthier foundation for sustained gains than narrow leadership by a handful of giant companies.
Sector Performance & Oversold/Overbought Readings
- Top Sectors: Information Technology returned to 1st place last week, followed by Healthcare (2nd) and Energy (3rd).
- Bottom Sectors: Utilities dropped to last place (11th), followed by Communication Services (10th) and Consumer Staples (9th).
- Overbought Conditions: Healthcare and Financials.
- Oversold Conditions: Communication Services and Consumer Discretionary (Consumer Staples and Utilities are near oversold).
Inflation Takes Center Stage
This week delivers important data on inflation and interest rate expectations:
- Wednesday: July Consumer Price Index (CPI) and Core CPI.
- Thursday: Producer Price Index (PPI).
- Friday: Advance Retail Sales.
Together, these reports will provide crucial signals on economic health, Fed policy, and the trajectory of interest rates while corporate earnings wrap up.
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