There has been some commentary suggesting the stock market has recovered too quickly and that a blow-off top is eminent. Seeing some of the leading technology stocks power the current rally as the AI trade has been fully revitalized makes for a plausible case that the market is due for a rest. But a major pullback is doubtful given the most recent bullish consumer sentiment survey and rising optimism about economic growth.
The GDPNow model estimate for real GDP growth (seasonally adjusted annual rate) in the second quarter of 2025 is 3.8% on June 5, down from 4.6% on June 2. After recent releases from the U.S. Census Bureau, the U.S. Bureau of Economic Analysis and the Institute for Supply Management, the nowcasts of second-quarter real personal consumption expenditures growth and real gross private domestic investment growth decreased from 4.0% and 0.5%, respectively, to 2.6% and -2.2%.
This past week’s lower revision of 3.8% from the 4.6% reading shows how whippy the Atlanta Fed’s economic measuring stick is. And though the 3.8% number is down almost a full point, it still reflects rising personal consumption expenditures and improved private domestic investment. However, some economists remain skeptical, warning that new tariffs and trade wars could quickly reverse this optimism. To this point, there is certainly the probability of a “risk-off” sentiment developing if trade negotiations remain bogged down as the 90-day tariffs extensions approach expiration.
The major factors contributing to the market retesting its February highs are expectations of trade deals being consummated, or the deadlines getting further extended, stronger-than-expected revenue and earnings growth, a healthy labor market and inflation trending lower, now at a 2.3% annual rate. Gas prices are under $3.00 per gallon in many parts of the country as the summer travel season is now in full swing.
With this bullish backdrop having propelled the S&P 500 back up to the 6,000 level, it should be noted that early signs of slowing economic activity are showing up as we approach the mid-point of 2025. Q1 productivity decreased by 1.5% (consensus -0.8%) versus the preliminary report of a 0.8% decrease. The decline in Q1 productivity was the first decline in productivity since the second quarter of 2022.
Unit labor costs, meanwhile, were revised up to 6.6% (consensus 5.7%) from the preliminary reading of 5.7%. An increase in unit labor costs to 6.6%, especially alongside a 1.5% decline in productivity, suggests rising labor expenses without a corresponding increase in output. This could be driven by factors such as wage growth, inflationary pressures or inefficiencies in production.
The combination of declining productivity and the big jump in unit labor costs brings stagflation into the discussion that will complicate the Fed’s assessment of the overall economic picture and what to do with its policy rate, but its policy statement will be dominated by the employment picture. Initial jobless claims for the week ending May 31 increased by 8,000 to 247,000. Continuing jobless claims for the four-week moving average of 1,895,250 are at the highest level since November 27, 2021.
Speaking further of the job market, the latest ADP National Employment Report for May 2025 shows that private sector job growth has slowed significantly, with only 37,000 jobs added, the lowest rate since March 2023. This is far below economists’ expectations of 110,000 jobs. And yet, the Employment Situation report for May beat expectations, pointing to the addition of 139,000 non-farm payrolls (consensus 130,000) while average hourly earnings increased by 0.4% (consensus 0.3%) and the unemployment rate held steady at 4.2%.
It should be noted that April non-farm payrolls were revised to 147,000 from 177,000 and March non-farm payrolls were revised to 120,000 from 185,000. These are sharp downward revisions. A weaker-than-expected labor market could be influencing these revisions. The adjustments suggest that job creation was nearly 30% lower than initially reported, which may signal broader economic concerns. It would be of no surprise if Friday’s headline number could be revised lower as well.
With the United States being a consumer driven economy, this latest set of employment data is pivotal to market sentiment. From a big picture standpoint, the data implies the economy remains on good footing despite the volatility incurred by bond market gyrations, and tariff uncertainty. On balance, a 4.2% unemployment rate coupled with higher-than-expected average hourly income growth that follows a strong 0.8% increase in personal income in April paves the way for consumer spending to remain on a steady growth trend. This data suggests the risk of recession even with modest tariffs is low.
The predominant risk to the generally positive outlook for the overall markets appears to be twofold. First, the heightened state of awareness by investors is that spending and rising deficits on Capitol Hill are not a priority despite the election rhetoric. This has both the dollar and the long-dated Treasury maturities trading on the defensive.
The bearish chart of the dollar should be displayed on the Speaker of the House’s podium every day they determine the outcome of Trump’s Big Beautiful Bill. The Congressional Budget Office (CBO) estimates it will increase the federal deficit by $2.4 trillion over the next decade. The bill includes $3.7 trillion in tax cuts but only $1.3 trillion in spending reductions, leading to a significant budget shortfall.
The dollar is, and will be, the world’s reserve currency because the U.S. economy accounts for 25% of total global GDP. But it is vitally important that its status and value are deeply protected — and that comes with fiscal discipline during times of economic growth, so that when a COVID-19 event comes around, the balance sheet can be expanded to rescue the economy.
Both Jamie Dimon, CEO of JPMorgan Chase, and Ray Dalio, founder and chief of Bridgewater Capital, the largest hedge fund in the world, warned publicly this past week that if Congress doesn’t get serious with fiscal policy regarding government spending, taxation and borrowing through thoughtful and tough love legislation, there will be a fissure in the bond market that will have wide ranging effects. For now, the market is tolerating the disregard for proper fiscal stewardship but there needs to be movement in the right direction to ward off the kind of risk these banking honchos see coming.
