MW Stock investors had better hope these Americans keep propping up the economy

By Cam Hui

The wealthy are spending, but many consumers are pulling back - and the stock market is fragile

Stock prices will undergo a corrective reset of growth expectations, but not a recessionary bear market.

U.S. Treasury Secretary Scott Bessent recently declared that the Trump administration was mainly focused on lowering the 10-year U.S. Treasury BX:TMUBMUSD10Y yield. He seems to be accomplishing that goal. Yields are moderating, and the MOVE Index, which measures bond-market volatility, is relatively tame. Bessent is achieving his objective, but at a price - by tanking the U.S. economy.

A recent Wall Street Journal article revealed that the top 10% of Americans account for about half of all consumer spending. The cumulative excess savings of this group rose and remained steady in the wake of massive fiscal and monetary COVID-era stimulus. By contrast, the excess savings of the other 90%of Americans have declined.

In other words, the U.S. economy now depends on the high-end consumer, which makes for highly fragile and unbalanced growth. Here's a case in point. Walmart $(WMT)$, whose sales are more exposed to the lower-income consumer, described the consumer as resilient during its most recent earnings call, but with the caveat that "we're seeing higher engagement across income cohorts, with upper-income households continuing to account for the majority of share gains."

The top 10% owns most of the wealth in the U.S. This makes the economy highly vulnerable to shocks in asset prices.

Such an uneven distribution makes economic growth increasingly reliant on further gains in the wealth effect in the form of rising equity and property prices. Since the top 10% owns most of the wealth in the U.S., the economy is highly vulnerable to shocks in asset prices from a negative wealth effect.

Here are the risks. The valuation of the S&P 500 SPX is stretched. Here is a compilation of valuation metrics from MarketWatch columnist Mark Hulbert showing the S&P 500 is wildly overvalued by historical standards.

In the face of elevated stock valuations, some worrisome developments are appearing. While the recent House budget blueprint may be regarded as constructive inasmuch as it proposes to extend the tax cuts from the 2017 Tax Cuts and Jobs Act, the tax-cut extensions represent the status quo and are not fiscally stimulative. On the other hand, the extension blueprint included significant cuts of $1.5-$2 trillion to the U.S. budget, which is a form of fiscal contraction and therefore bearish for stocks.

Tax cuts are the equivalent of a tax increase to the lower-income cohorts, which will restrain growth.

Moreover, the tax cuts are the equivalent of a tax increase to the lower-income cohorts, which will restrain growth. To be sure, the budget blueprint will take time to become law as the legislation winds its way through the Senate, followed by a reconciliation process. Nevertheless, the fiscal plan, as presented, represents an unwelcome fiscal contraction that is equity-negative.

Notwithstanding the budget developments, there is already growing evidence of a deceleration in the growth outlook. The Economic Surprise Index, which measures whether economic releases are beating or missing expectations, has fallen into negative territory.

The jobs market is also softening. The continuing message from successive JOLTS reports tells the story that it's increasingly difficult to find a job. Leading indicators of employment, such as temporary jobs (blue line) and the quits/layoffs ratio (red line), are declining.

The above data does not include the DOGE [Elon Musk's Department of Government Efficiency] layoffs, which will become evident in the March payroll report. Estimates of federal government employment show that there are two- to three government contractors to every government employee, so the scale of the job loss may be worse. In addition, state- and local government employment has been contracting.

Bloomberg Economics modeled the effects of the DOGE cuts under differing scenarios and projects the peak effects would be seen in the first half of 2026. All else being equal, GDP growth slows, unemployment rises, inflation falls and the U.S. Federal Reserve cuts rates more than what the market is currently expecting. Mission accomplished, as measured by the 10-year Treasury yield. But slower growth will be bearish for stock prices.

Uncertainty = weak capex spending and hiring

The Dallas Fed Manufacturing Index came in below expectations: new orders; production; shipments and employment were all weak.

Business uncertainty is also rising. The Dallas Fed Survey of businesses provided a fascinating window into growing concerns over tariffs and other Trump policies, which will hinder capital expenditure and hiring plans. Here are some selected responses:

Chemical manufacturing: "Tariff threats and uncertainty are extremely disruptive."Food manufacturing: "The current political environment under President Trump has increased the uncertainty of the consumer market. As a food manufacturer, we have noticed small customers are struggling (unable to pay bills on time), and the larger national customers have reduced their purchases. Imposing tariffs on our major trading partners will lead to higher consumer prices ... Immigration laws and raids [are affecting our business]."Miscellaneous manufacturing: "The uncertainty in tariff threats and general chaos of another Trump presidency is weighing heavy on our business. All customers are decreasing or pushing out orders - taking a wait-and-see posture."Non-metallic mineral product manufacturing: "It is very hard to plan. Interest rates? Tariffs? Wow."Printing and related support activities: "I'm very worried about the possible tariffs affecting some of our material costs, which we will have no choice but to pass along to our customers."Transportation equipment manufacturing: "The new tariffs will have a big impact on the demand for our products. This applies primarily to the 25 percent on goods from Mexico. The impact of the additional 25 percent for steel and aluminum will also be detrimental to demand, the extent of which is still being evaluated."

Unrelated to the business survey, the Dallas Fed Manufacturing Index also came in below expectations: new orders; production; shipments and employment were all weak.

Weakening housing

Home builder sentiment has cratered, and the relative performance of home-building stocks is rolling over.

In addition, the housing sector, which represents the other leg of asset wealth and a highly cyclical part of the economy, is flagging. While my base case does not call for a recession, rollovers in housing starts have been reliable recession indicators.

This is occurring against a backdrop of worsening housing affordability, which is higher than what was seen at the peak of the last housing bubble.

Home builder sentiment has cratered, and the relative performance of home-building stocks is rolling over against a backdrop of rising pressure from higher lumber prices owing to tariffs from Canadian imports. Anecdotally, Home Depot's $(HD)$ latest earnings report tells the story of missed expectations. The company cited "ongoing pressure on large remodeling projects" and "uncertain macroeconomic conditions and a higher interest rate environment that impacted home improvement demand."

Apocalypse? Not now

Despite all of the dire news, I am not projecting a recession, just a growth scare and reset of growth expectations. Junk-bond yields, which is a real-time proxy of the equity risk premium, are showing few signs of stresses seen during recessions.

If inflationary expectations remain well-anchored and bond yields stay low, I expect that stock prices will undergo a corrective reset of growth expectations, but not a recessionary bear market.

Investors should nevertheless be mindful of a long-term market top, based on the negative 14-month RSI divergence. The macro backdrop is suggestive of a brief but sharp price drop, not a prolonged recession-induced bear market.

Cam Hui writes the investment blog Humble Student of the Markets, where this article first appeared. He is a former equity portfolio manager and sell-side analyst.

More: What Warren Buffett really thinks about the stock market

Plus: The stock market is ignoring what could be its No. 1 threat

-Cam Hui

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March 03, 2025 08:15 ET (13:15 GMT)

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