AI-Driven Secular Bull Market Broadens With Rate Cuts - Episode Hero Image

AI-Driven Secular Bull Market Broadens With Rate Cuts

Bloomberg Surveillance · · Listen to Original Episode →
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TL;DR

  • The AI revolution is a primary driver of earnings growth, fueling a projected 3% GDP increase next year and supporting an S&P target of 8600, indicating a secular bull market driven by technological advancement and productivity gains.
  • Investors should anticipate a broadening market in 2026, with interest rate cuts benefiting rate-sensitive sectors like housing and regional banks, alongside continued relative value plays within tech stocks.
  • Emerging markets, particularly in Asia and Latin America, present attractive opportunities due to their technology stock access and potential for growth, complementing a US-centric investment strategy.
  • Quality free cash flow growth is fundamentally derived from revenue growth exceeding nominal GDP, necessitating a focus on management teams with proven growth records and robust balance sheets.
  • The housing market faces a "locked-in effect" where low mortgage rates deter sellers, but significant pent-up demand driven by life factors, not just rates, suggests millions are poised to move when conditions allow.
  • Builders are using mortgage rate buy-downs as a margin-preserving tactic, costing them significantly less than outright price reductions to achieve similar payment relief for buyers, though this practice has regulatory vulnerabilities.
  • China is exporting deflation globally due to reduced US trade and weak domestic demand, compelling them to find new markets for their production, which impacts global pricing dynamics.

Deep Dive

The equity market is positioned for continued growth in 2026, driven by robust earnings fueled by the AI revolution and nominal GDP expansion. However, this growth will manifest as a broadening of market participation, benefiting interest-rate sensitive sectors and emerging markets, rather than solely leading with tech stocks. This broadening is essential to sustain the current secular bull market, which is still in its early stages after a prolonged downturn.

The AI boom, while a significant driver of earnings growth, does not yet signal a market bubble. Current valuations, particularly for companies like Amazon, remain reasonable when considering their diverse business segments, including AWS and retail. The broader market outside of the dominant tech stocks also appears inexpensive, suggesting room for expansion. This positive outlook is supported by the expectation of Federal Reserve rate cuts, which will alleviate pressure on interest-rate sensitive parts of the economy, such as housing and regional banks. Emerging markets are also poised for growth, particularly in Asia where technology stocks offer opportunities.

The housing market faces challenges, with a slowdown in new home buying demand despite lower mortgage rates. This is partly attributed to a "locked-in" effect for homeowners with low existing mortgage rates and a reluctance by builders to significantly cut prices, opting instead for mortgage rate buy-downs which are becoming a potential regulatory vulnerability. While pent-up demand exists due to life factors, a sustained recovery hinges on increasing housing supply to exert downward pressure on prices without causing a collapse in demand. The broader economic picture, influenced by a stable but slowing job market, suggests the Federal Reserve will likely cut rates as inflation remains sticky around 3%, leading to a potential for a surprise upside in GDP growth due to stimulus measures.

The key takeaway is that the market's upward trajectory is shifting from a tech-led rally to a more inclusive growth phase. Investors should look for opportunities in sectors beyond the current leaders, anticipating a broadening out of market gains as interest rates decline and economic activity expands. The housing sector's recovery will be gradual, contingent on supply increases and careful management of pricing strategies by builders, while the underlying consumer's financial health, reflected in the aggregate paycheck, remains a critical indicator for overall economic stability.

Action Items

  • Audit AI agent security: Implement Okta for identity verification across 5-10 AI agent use cases to prevent unauthorized access.
  • Analyze housing market buy-down loophole: Assess regulatory risk for home builders using forward purchase commitments for mortgage rate buy-downs, impacting 3-5 key companies.
  • Measure consumer spending shifts: Track 5-10 product categories to quantify consumer trade-downs from premium to value options due to rising coffee prices.
  • Evaluate management quality: For 3-5 home building companies, assess management's ability to empower local decision-making and adapt to market changes.

Related Episodes

Key Quotes

"We think it's pretty good. We've got a two year target of 8600, we've got 7800 for next year and really driven by earnings growth at this stage. We've got earnings at 390 out three years and, you know, stocks eat nominals. GDP growth, nominal GDP growth looks really good to us. You've got the AI revolution driving earnings, you've got enormous productivity. We've got GDP next year up 3%, I think the consensus is 2%. We've been on the high side all along."

Steve Auth, CIO of Equities at Federated Hermes, outlines a positive outlook for the equity market, projecting significant growth targets for the next two years. Auth attributes this optimism to earnings growth, driven by the AI revolution and increased productivity, with expectations for GDP growth to exceed consensus estimates.

"What we've been saying, Tom, is we're in a secular bull market here. This is only the third one in the last 100 years. They happen after you've had a 15-year bear where everyone has lost a lot of money, which they did between '99 and '13, and they're forever cautious for a generation. The scar tissue, it's like depression baby, right? That's what drives the bull, and that's why here, as soon as we get a little bit of a pop, everyone's talking about bubbles."

Auth explains that the current market conditions are indicative of a secular bull market, a rare phenomenon that follows prolonged downturns. He suggests that the caution and fear ingrained in investors from previous market crashes, like the one from 1999 to 2013, are actually the underlying drivers of this sustained bull market, leading to premature discussions of bubbles.

"We think the big picture next year is finally this broadening out happens. The Fed cutting helps the interest rate sensitive parts of the economy that have been suffering, so that starts to lift housing, regional banks, emerging markets have actually had a good year this year off of very low levels. We think that's a really interesting place."

Auth anticipates a broadening of market performance in the upcoming year, with interest rate cuts from the Federal Reserve benefiting sectors that have been negatively impacted by higher rates. He specifically highlights housing, regional banks, and emerging markets as areas poised for improvement.

"The middle syllable of economy is confidence. Yep. So you're absolutely right, Paul, with that question. It's something when I review everything that's going on with our board every quarter, our clients, I look at IPO activity, M&A activity of late. I found myself kind of as the receptionist at Federated Hermes after 5 PM when the regular staff goes home and you've got these roadshows coming through."

Stephen Kim, Head of Housing Research at Evercore ISI, emphasizes the importance of confidence in the economy, linking it to increased IPO and M&A activity. Kim describes his role in facilitating these activities, suggesting that a rise in such transactions indicates a positive shift in market sentiment.

"One of the reasons why I'm not in politics, there are many by the way, but one of the reasons is because I don't think that the housing market is really, really lends itself to a quick fix. There are fixes, but the fix comes from supply. You need to increase supply, and if you do that, you will put some downward pressure on pricing."

Stephen Kim states that the housing market is not amenable to rapid solutions, asserting that the primary solution lies in increasing supply. Kim believes that boosting housing supply will naturally lead to a reduction in prices, addressing the current market challenges.

"The reason why one moves, some of it's financial, a lot of it ain't. Yep. A lot of it is, you know, Mom's getting older, you know, we really need to go see her, or we're not seeing the grandkids enough, or I'm retiring. And you know, there's all kinds of reasons why the house that was good for you 10 years ago is not really that great for you anymore."

Stephen Kim explains that while financial considerations play a role, life events are significant drivers of housing turnover. He lists factors such as aging parents, family proximity, and retirement as key reasons why individuals move, suggesting that these "life factors" are more influential than interest rate fluctuations.

Resources

External Resources

Books

  • "The Intelligent Investor" by Benjamin Graham - Mentioned as a foundational text for value investing principles.

Articles & Papers

  • "Bloomberg News story on how high coffee prices are changing how people get their daily brew" (Bloomberg News) - Referenced as an example of how rising coffee prices are impacting consumer behavior.
  • "Wall Street Journal reporting on Costco's vacation packages" (Wall Street Journal) - Cited as an example of Costco's diverse offerings beyond traditional retail.

People

  • Steve Auth - CIO of Equities at Federated Hermes, discussing market bubbles and AI.
  • Eric Winograd - Chief US Economist at AllianceBernstein, discussing jobs data, Fed policy, and aggregate paychecks.
  • Stephen Kim - Head of Housing Research at Evercore ISI, discussing housing market trends and builder strategies.
  • Lisa Mateo - Contributor discussing newspaper headlines, including Costco vacation deals and coffee prices.
  • Benjamin Graham - Author of "The Intelligent Investor," mentioned in relation to value investing.
  • John Writing - Mentioned in relation to the "chart paragraph chart" concept.
  • David Melpass - Mentioned in relation to the "chart paragraph chart" concept.
  • John Ausi - Mentioned in relation to the "chart paragraph chart" concept.
  • Doug Lee - Mentioned in relation to the "chart paragraph chart" concept.
  • Ed Hyman - Mentioned for his contacts and insights into the American housing market.
  • Bill Polty - Former FHFA official whose commentary on housing was noted.
  • Cortland Steers - CEO of Cortland, discussed in relation to real estate management culture.
  • Ryan Reynolds - Spokesperson for Mint Mobile, promoting a holiday offer.

Organizations & Institutions

  • Bloomberg Surveillance - The podcast hosting the discussion.
  • Federated Hermes - Employer of Steve Auth, discussed in relation to investment strategy.
  • AllianceBernstein - Employer of Eric Winograd, discussed in relation to economic analysis.
  • Evercore ISI - Employer of Stephen Kim, discussed in relation to housing research.
  • JP Morgan Asset Management - Mentioned as a global leader in active fixed income ETFs.
  • JP Morgan Chase & Co. - Parent company of JP Morgan Asset Management.
  • JP Morgan Distribution Services Inc. (JPMDS) - Issuer of communications for JP Morgan Asset Management.
  • Okta - Company providing identity security for AI agents.
  • Chase Sapphire Reserve for Business - A business credit card offering rewards and benefits.
  • Adobe Acrobat Studio - Software with AI-powered PDF features.
  • Public (Public Investing) - Platform for building multi-asset portfolios and generated assets.
  • Mastercard - Company offering solutions for B2B card payment acceptance.
  • Federal Reserve (Fed) - Central bank discussed in relation to interest rate policy.
  • NFL (National Football League) - Mentioned in relation to sports analytics.
  • Pro Football Focus (PFF) - Data source for player grading.
  • New England Patriots - Mentioned as an example team for performance analysis.
  • Netflix - Mentioned in relation to its potential impact on the Hollywood industry.
  • Amazon - Discussed as a potential investment value, considering AWS, AI, and retail.
  • FHFA (Federal Housing Finance Agency) - Government agency involved in housing regulation.
  • Medline - Company that had the year's largest IPO.
  • CVS - Retailer mentioned for community service and offerings.
  • FedEx - Company offering supply chain solutions.
  • Mint Mobile - Mobile virtual network operator offering wireless plans.

Tools & Software

  • Bloomberg Terminal - Platform where articles are published and accessed.
  • AI Agents - Discussed in relation to identity security and business support.
  • Adobe Acrobat Studio - Software with AI-powered PDF features.
  • Generated Assets (Public) - Investable indices created with AI prompts.
  • Drip Coffee Makers - Mentioned as a purchase for home coffee preparation.

Websites & Online Resources

  • jpmorgan.com/getactive - Website for JP Morgan Asset Management's active ETFs.
  • chase.com/reservebusiness - Website for Chase Sapphire Reserve for Business card information.
  • adobe.com/dothatwithacrobat - Website for Adobe Acrobat Studio.
  • public.com/market - Website for Public investing platform.
  • mastercard.com/commercialacceptance - Website for Mastercard's B2B payment solutions.
  • omnystudio.com/listener - Website for privacy information related to podcasts.
  • mintmobile.com - Website for Mint Mobile services.

Other Resources

  • AI Revolution - Discussed as a driver of earnings growth and productivity.
  • Secular Bull Market - A long-term market trend occurring after significant downturns.
  • Bubble Monitor - A tool or framework used to assess market bubbles.
  • Chart Paragraph Chart - An analytical method for understanding market data.
  • Aggregate Paycheck - A concept representing the total income of households.
  • Nominal GDP - Economic indicator discussed as a driver of equity performance.
  • Real GDP - Economic indicator discussed in relation to growth.
  • Mortgage Rate Buy Down - A strategy to lower mortgage rates, often paid by sellers.
  • Forward Purchase Commitment - A loophole related to mortgage rate buy downs.
  • Housing Crisis - A broad issue affecting housing affordability and availability.
  • Nail Gun - Tool mentioned as revolutionizing home building efficiency.
  • Luxury Market (China) - Discussed in relation to Chinese economic trends.
  • B2B Card Payment Landscape - The evolving environment for business-to-business payments.

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This content is a personally curated review and synopsis derived from the original podcast episode.