Making Sense: October Market Update

Making Sense

Monthly Market Update

Recorded on October 30, 2025

Amy: Hi, I’m Amy Thomas. I'm a strategist here at First Citizens Bank. Today is Thursday, October 30, 2025.

I'm joined by our Chief Investment Officer Brent Ciliano and Senior Director of Market and Economic Research Phil Neuhart. And this is our monthly Making Sense market update series, where Phil and Brent take a deep dive into what's happening in the markets and the economy. As always, the information you're about to hear are the views and opinions of only the authors at the time of recording and should be considered for educational purposes only. This should not be considered as tax, legal or investment advice.

Brent: Well, thank you, Amy, and good afternoon, everyone. Hope all of you are well. Phil, Happy Halloween. It's hard to believe that we only have 2 months left in the year. So much has transpired.

Phil: It's incredible this year.

Brent: Well, we've got a lot to talk about today, and we're going to start off by giving you a broad economic mosaic, sort of the tailwinds and headwinds to date and what's going on, which will help guide us, at least from an economic perspective on a forward basis. We'll talk through that.

Then we'll certainly hit monetary policy, all things inflation in the labor market and certainly consumer spending.

As we always do, we'll get into a market update where we'll talk about equity markets and the incredible run that we've had. We'll talk about the byproduct of that with just valuations, and we'll certainly get into fixed income. So why don't we jump right in?

Phil: So looking at the economic side of things, we wanted to examine tailwinds and headwinds. One thing I think you'll notice as soon as we pull this T-chart up is that there's some more tailwinds than headwinds, which might explain why markets are at all-time highs, even if we need to talk about valuations and some other factors. So what are things that supported the marketplace? Well, one, GDP growth.

We're not receiving third quarter data as we would like because of the government shutdown, but professional estimators, forecasters have GDP growth around 3%. That's certainly above trend and a good number. Stock market at an all-time high, positive wealth effects, good things come out of that.

We have resilient household demand and spending. It's really supported by the top tiers of households from an income perspective, but nonetheless resilient demand and spending. Bond yields are lower. Spreads are still very tight.

Brent: Historic types.

Phil: Yeah, when you look at corporate bond spreads, still tight. Financial conditions, we'll dig into this more in a moment, are extremely easy. And in all of this, the Federal Reserve is lowering rates, not hiking rates.

We just received the second Fed cut of this year. And corporate CapEx is surging on AI investment. Of course, we're the middle of an earning season, and there's a lot to talk about AI. But corporate CapEx looks quite strong.

And corporate fundamentals broadly look pretty strong. There are places of weakness, but when you look at the the entire corporate space, it looks pretty strong.

Brent: Yeah. And, you know, again, when we look at some of the headwinds that we're facing, certainly, as you said, far less than the tailwinds you just mentioned.

And certainly, with the first and foremost and we just had, you know, the Fed, meeting yesterday and discussions in Jay Powell's presser about labor market and what's gone on. And certainly, the labor market from a hiring perspective has slowed, but current employment seems strong. And Chair Powell mentioned the stability that they're seeing in the labor market despite job creation being lower. Certainly something that could turn into a broader headwind if it were to continue.

As we talked about—and we've talked about in many of our—our webinars is that inflation is running closer to 3% than to 2%. And, you know, inflation, whether that's CPI, core CPI, peak core PCE has moved higher since April, and it's certainly something the Fed is going to have to be watching closely. And again, with the government shutdown, there's been a lack of broad data.

We did get CPI data, but by and large, something that that that could turn into a headwind if it were to persist or go higher. Certainly, trade geopolitical uncertainties continue to linger, certainly nowhere near where we were in April. The president has a meeting with President Xi this week. That's starting to look positive. We'll talk a little bit more, but certainly that that lingers as far as a potential headwind.

And something that we'll get into a little bit more deeply is that, you know, broader household credit conditions are no longer as pristine, whether I look at credit cards or auto loans. Things there are starting to, at the margin, look a little bit worse. And then something that will probably be a headwind for the next 50 years, which is government debt, deficits are still elevated.

We'll talk a little bit about tariffs and fiscal policy and some of the revenues that we're going to be getting, or we have been getting from the tariffs and what that might look like. But again, government debt and deficits broadly continue to be elevated.

So let's talk about the labor market, and certainly talk about job creation. To start, on the left-hand side, we're looking at the 3-month moving average of job creation. And again, the last read that we got filled before the government shutdown was the August data 3-month moving average. Only 29,000 jobs created on a 3-month moving average. Also, a little bit more than a month ago, the BLS announced that they were going to be revising the date of, you know, that March 2024 through April 25, down by 900,000. So these bars are going to come down significantly. So undoubtedly, job creation and hiring has certainly slowed.

On the right-hand side, and we showed the U3 unemployment rate going all the way back to 1950, but when we look post 2000, you've seen that postcycle lows, we've had a recession this time around. We haven't seen one, but we've certainly seen the unemployment rate at the margin from the lows that we saw back in 2023 of 3.4%, now upwards of 4.3% and some volatility there.

Phil: But something we noticed here is we saw that rise. Normally, when you start to see that rise, it continues. We've kind of moved sideways now for some time, and I think that's one of the reasons that we could say the labor market might be seeing some softening, but not outright deterioration at this point.

Brent: Absolutely. And if we take the other side of it and we think about current employment or what might be happening or signaling, what we're looking at here, two indices: One, the gold line, which is, workers filing new jobless claims. And then another data point that we haven't really highlighted a lot, but it's a really, other supplemental data is WARN Act notices, which is worker adjustment and retraining notifications that large employers have to provide 60 days in advance before more significant layoffs. You can see in that blue line or the jobless claims line, by and large, the current employment picture has been moving relatively sideways, slightly up, but relatively sideways despite some of the headlines that we've heard from some, you know, bigger S&P 500 companies talking about potential layoffs. Things have moved relatively sideways.

Phil: Yeah. There might be a dislocation here between the available data, right, through September and some of the recent announcements we've seen even this week. So this bears watching. I think the layoff side is something that it's not a perfectly clean picture, right? It's not deterioration yet, but something we really need to watch more carefully.

Brent: Yeah. And so let's look at current employment. What we're looking at here is the employment-to-population ratio for prime-age workers, those 25 to 54. And what you could see at 80.7%, it's the highest level in 25 years. And now certainly we could debate the quality of some of those jobs there, you know, almost 12 million rideshare workers and things along those lines. But as far as current full employment, we are certainly there again at the highest level in more than 25 years.

Phil: That's right. People are working.

Brent: Yes, which is critically important for spending.

Phil: Exactly, critically important. So let's talk about financial conditions.

So you hear, you'll hear this in the Financial Conditions Index. What is in this index? Well, it looks at things like stock prices, interest rates, credit spreads, right? Are those high or low? The dollar, short-term interest rates, meaning the Fed basically. And what you'll see here is that financial conditions are extremely easy, right? The easiest we've seen since 2022.

And by the way, the Fed is still cutting. So when you think about, you know, why is the stock market up so much? Well the truth is, financial conditions are easy and have continued to ease since the Fed first signaled that it might cut earlier this year. So easy financial conditions. I also would point out as you look historically to September of last year when the Fed started cutting rates with that 50-basis-point cut, we're easier than we were then as well. So certainly, it's not a restrictive scenario for for risk assets.

So what is the Fed doing? Well, as a reminder, they've cut twice this year. The second time was, of course, this week. The current rate is now 3.75 to 4%.

The Fed now between last year and this year has cut 1.5%, so 150 basis points. So much easier than where we were, say, before September of last year. Three additional cuts are priced in between now and year end of next year. And the summary of economic projections shows another cut this year and potentially one next year.

But Chair Powell made it clear in his statements this week that further cuts are not necessarily a foregone conclusion. Now part of me says, well, what is he supposed to say? That we're definitely going to cut? Of course they don't know, but it's not a foregone conclusion. And one thing that last year's reminder and the year before is a reminder that just because futures are pricing something doesn't mean that's going to play out specifically, but certainly biased toward further cutting even after 150 basis points of cuts.

So we talked about the labor market. Let's talk about the other side of the Fed's dual mandate: price stability. What you can see here is inflation is running about 3%, and you mentioned this when we talked about headwinds. The Fed's target is 2%. We're running at 3%, right? And so the Fed is cutting. They are favoring the full employment side of their dual mandate. But if inflation continues to run around 3%, it does put a floor under how much the Fed can cut. I think it's very unlikely that they cut so aggressively that they move both low rate of core inflation, for example.

That that's extremely unlikely. So something that bears watching. Of course, we did recently get some inflation data that was late.

Is data going to flow in cleanly with the government shutdown? That remains an open question. But this remains a challenge, I think, for markets and the Fed. Yes, inflation's far better than it was a few years ago, but above target.

Brent: Yeah. So where might it be going, right? That's where it is. So on the left-hand side, let's talk about, you know, household expectations for where inflation might go from here. The gold line is expectations for next year.

Phil: Right.

Brent: And you can see, first of all, it's obviously an incredibly volatile series.

Phil: Right.

Brent: And given where we were, when inflation really reared its head in that 2021, 2022 time frame and the expectations there. But look at the move up that we saw in 2024 and into 2025. Again, still sitting, you know, significantly above 2%, closer to almost 5%, so sitting there, you know, 4.6%. But what I think is very interesting was I think about the household inflation expectations for the next 5 years, which is the dark blue line on the left, elevated it almost 4%, 3.9% is a pretty significant number.

So households are feeling the pain when they go to the grocery store, when they go think about their insurance bills and they think about the utilities, prices are still significantly elevated. And certainly, Chair Powell talked about the potential transitory nature and that one-time price adjustment up and something that they're gonna be watching. But I will tell you, households are certainly feeling the inflation pain, and that's emblematic of their expectations that they put into the survey.

On the right, you can see market's expectations. The dark blue line is inflation expectations 1 year out. And here, we're using something which are inflation swap rates, which is just a sort of market-implied way for us to get a feel as to what those expectations 1 year out. And again, you can see, significantly above 2% as far as inflation expectations. But when we look farther out, Phil, and we look at the gold line—

Phil: Yep.

Brent: That 5-year, 5-year or thinking about the market's expectations for longer-term inflation sitting at, you know, almost 2.5% is rather significant. And if you take that back to the slide that you previously have and we think about the ultimate terminal value of where the Fed stops, historically, as we've talked about before, that terminal value of Fed funds has usually been 1% to 1.25% above that implied terminal value of inflation, which if that were to be the case, the Fed should probably stop after this year. So it really puts into question what the path of monetary policy is from here.

Phil: Right. And, by the way, as these lines show, there is uncertainty around the rate of future inflation. It's moved quite a bit just this year. Worth watching. I will point out that 5-year, 5-year being closer to 2.5%, historically, that's not all that troubling.

Brent: No. Absolutely not.

Phil: The truth is we look at long-term inflation rates. So if that ends up being the scenario that plays out, that's kind of a return to normality.

Brent: Yes.

Phil: Whereas last cycle, before the pandemic, where we had very low inflation is really the historical exception.

Brent: Yeah. And what's clear is that, and we'll get to this when we get to the market section, is corporations have been able to navigate this pretty adeptly and being able to do this now—

Phil: Incredibly well.

Brent: Incredibly well. Now, the consumer will have to wait and see, but by and large, to your point, that's something that's more normal.

Now, if we kind of shift gears to one of the other headwinds that we talked about, Phil, which is trade and fiscal policy, on the left-hand side, we're looking at total aggregate tariff revenue on a 12-month rolling sum basis. And you can see, where it was sort of, you know, pre-2025, which was incredibly flat, right around between that $50 to $100 billion.

You can see that move up and then that dotted line, which is the forecast, going forward, you can see sitting at $360 billion, which is an incredibly large sum. But let's relate it to our fiscal deficit, right? When I look at revenues versus expenditures, we had about a $2 trillion gap between revenues and expenditures. So you know, almost $400 billion does make up a pretty big gap between that deficit that we have.

Phil: It's now new revenue for the government, and it's difficult to walk away from, right, when you're running deficits like this.

Brent: And when you look at the chart on the right, which, you know, I hand it to Blake Taylor, our analyst put this together, it's just incredible. When we look at tariff revenue collection, right, we'll be on par—and is approximate right now—on par to corporate income tax receipts. So let's pause on that for a second. The tariff revenue that we're collecting is on par with corporate tax payments. That's incredible. That is a large sum and certainly something that I'm sure will end up becoming a political discussion. But by and large, of the revenues that we're seeing from tariffs are significant when we put into context of other receipts.

Phil: It really is material. So let's talk about deficits for a bit. What's interesting is the government has run persistent deficits even with a strong economy. And if you look historically, you can have look here before, say, 2008, usually deficits and the unemployment rate move in tandem. In other words, the unemployment rate goes up, deficits rise. Why is that? There's benefits that are paid out. The government is willing to spend more to try to support the economy. What's interesting is we had this incredible spike during the great financial crisis.

Look in that 2008 to 2010 period, huge fiscal stimulus, fiscal and monetary stimulus. Here we're showing fiscal, even as the unemployment rate rose. What's interesting, though, is the unemployment rate fell, right? But around what, 2015, fiscal deficits did not fall in tandem, right? And we've really been in a fiscal stimulative environment since then. Of course, massive spike up in both unemployment and fiscal deficits in the pandemic, but look at where we have flatlined. So we're in this situation where fiscal deficits are massive, even as the unemployment rate is quite low. And this has been a shift over the last, let's say, 10 years, 10 to 15 years, since the Great Financial Crisis.

I think it's easy for us to forget. We spent a lot of time on the road and I find myself saying this a lot, just how important the Great Financial Crisis was to the economy, to markets and things that we're actually still contending with. Think about quantitative easing. Think about the Fed. Think about fiscal stimulus. We are still contending with stimulus that came out of that period.

So we've talked about the consumer a lot. Something we pointed out in past webinars is that when you look at lower-quintile-income folks, they're spending less in real terms inflation-adjusted than they were in 2022. Higher income are spending more. And we look at the aggregate data that high income are driving spending growth. One of the main reasons is wealth effects, right? Here, we're showing essentially the value of the stock market relative to annual consumer spending. So in a way, this is inflation adjusted.

Brent: Yeah. It's nominal and nominal.

Phil: Right. So what are broad stock holdings divided by consumer spending? As you can see, except for that one spike during the pandemic, which we were at home, we weren't spending as much.

Brent: Mathematical anomaly.

Phil: Yeah. That's a mathematical anomaly because of the denominator. If you exclude that period, this is the highest it's ever been. This data is going back all the way to 1950.

So this is an incredible wealth effect. Combine that with the fact that home-price appreciation since the pandemic has been extreme. And yes, it's softening in certain parts of the country, but still far higher than 5 years ago. People spend more when they feel wealthier, and who owns stocks and owns their home? It tends to be the higher quintiles of income.

So this is what's been driving the consumer. Is it fair to say that we're in a situation where this makes the consumer a bit top heavy? It 100% is. And when we look at lower income quintiles, what do we see? We see higher credit card delinquencies, higher auto loan delinquencies. So we don't want to portray that there's one consumer in America. There is not. There's multiple consumers. But what's driving aggregate data, driving things like corporate earnings, are the higher quintiles.

Brent: And it's certainly possible, right, when you think about that financial wealth effect, that you could have a situation where if potentially or God forbid, we had a significant equity market pullback or did a significant depreciation in home prices, that that could feed back to an economic downturn because, to your point, what's driving a broad aggregate amount of spending is the, you know, high-income earners, those earning above $100,000, which are prime owners of a lot of the equities and value in homes.

And 70% of GDP roughly is the US consumer. So if the high income is driving the consumer, the consumer is driving GDP, then what's driving the economy? High-end consumer.

Brent: Yep. So let's get into consumer spending, which as you just mentioned is critically important, right? Sixty-eight percent is from consumption, another 4% from housing. So as goes the consumer, as goes real GDP. On the left-hand side, we're looking at that consumer spending, and looking at that spending growth. The dark blue line is nominal spending, nominal PCE spending, which is at a robust level. It's kind of moved sideways for a bit through 2024 into 2025, but at a very healthy 5.6% anomaly.

But what I think is really interesting is looking at the gold line, which is inflation-adjusted spending, which we just said is 68% of real GDP. So you could almost use that gold line as a surrogate for an indicator of what GDP might look like because it's such a large component. And if you told me, Phil, that, you know, real GDP will grow at 2.7% in line with real spending, I would say phenomenal.

Phil: We'll take it.

Brent: We'll take it. I mean, we did 2.9% in 2023, 2.8% in 2024. We'll see what this year turns out to be. But by and large, to your point, Phil, the consumer is still spending even on a real basis.

On the right-hand side is sort of a breakdown of that spending, and we've broken into three groupings here. The gray area is spending on services. The gold and blue areas are spending on goods, both durable and nondurable goods. And as we've said for a while, Phil, a vast majority of spending, more than 70% of consumption, is spending on services.

And you can see here that move up in nominal spending. But what is interesting is that services spending at the margin is starting to slow relative to spending on goods, and it's certainly something that we're going to be watching because a vast majority of the driver of spending is spending on services.

Phil: Yeah. It's something that's certainly easy for me to forget, right? When you buy a car or you buy a couch, it feels really big, right? It's tangible, but in the end, the average consumer spends more on services than on that good that you can touch.

Brent: Exactly.

Phil: So let's talk about some alternative data. We are not getting government data generally at this point, so we always keep an eye on alternative data. In fact, this TSA traveler's pass-through, you and I were talking about after the pandemic, and so we're watching very closely during that recovery. And what you'll notice is if this is showing lines 2021 through 2025, look at where 2025 is. It's at or above the 2024 levels, and you're talking record levels.

I always like to say, I know what a recession feels like in an airport, right? And we aren't in a recession, right?

So whether GDP was negative in the first quarter because of net exports, we weren't in a recession in the first quarter because we know what that feels like. Same with going to a restaurant. So what you'll notice of course is that TSA pass-throughs look pretty good. We always keep an eye on data like this, but we're watching it even more closely with government data not being released due to the shutdown.

Brent: And you and I have certainly physically observed this with the many travels that we've had. And I can certainly tell you that that the TSA lines, at least from our cursory observation, have not gotten smaller.

Phil: No, no. We can confirm that this data, anecdotally, we're seeing the same thing. So let's turn to markets, just for a little bit here. First, the S&P 500. This is a chart we like to show consistently, and the reason is it just tells the story in so many ways. This is S&P 500 all the way back to 2022. As a reminder, total return since the lows of 2022 is up over 100%, and we are at all-time highs.

It's easy to forget, but we had a 19% drawdown earlier this year. Since that drawdown, which you could see that big spike down, we've had a really consistent rise, very modest drawdowns in August and October. October, there were folks talking about, you know, quote correction. It was a 3% drawdown.

I mean, the truth is that that's just not much. So look, there is a lot of good news priced into this market, and to that point, let's talk valuation.

Brent: Yeah.

Phil: So this is price-to-forward earnings, right? And all this is is the cost of a dollar of forward earnings. So when this is higher, the market's more expensive. When this is lower, the market is cheaper.

One, what do you see here? The market's quite expensive. You're really talking back at levels that we saw immediately after the pandemic. Still below levels of the original tech bubble of the late 1990s, but very high.

Couple things to note here. One, and you've heard us say this before but we'll keep saying it, is valuation rarely trades at the average. So just because we're above average does not mean we're returning to average tomorrow. In fact, you know when the market was expensive? Last year.

Brent: Yes.

Phil: Right? This time last year. What should you have done?

Brent: Yeah. You should have bought stocks.

Phil: So it does not mean tomorrow you react, but it does mean that long-term forward returns are likely lower, something we'll probably be talking about as we look ahead to 2026. But you certainly can't say that you're buying a market at discount. I will point out a couple of things. One, the largest stocks are driving this to a large degree.

The top 10 names are pulling valuation higher. We are in the middle of an earning season, which a lot of these names are reporting. Many of these companies have just unbelievable earnings and revenue, unbelievable pricing power. There's a reason they're expensive.

If you look outside of those most expensive 10 names, the other 490 S&P, not cheap versus history, but really not that expensive versus history either. So this is driven by the most expensive names. I wouldn't say that the entire market is expensive. I don't think that's fair.

Brent: No. It's not a fair statement.

Phil: I Think the truth is that the biggest names which have pulled us higher are quite expensive, but in many cases for good reason. So let's talk about that fundamental breakdown, though, of returns since 2022.

Brent: Yeah. And that's the question that we're getting. Like, when you show that previous chart, Phil, a lot of clients will say, well, jeez, well, I don't think I want to own stocks when the valuations are this extended. And what we wanted to do here is sort of decompose and explain why stocks are going up, we think, the way that they are. On the dark blue line on the right is the return of the S&P 500 from January 1st of 2022.

And if I look at that breakdown, I want you to focus on the gold bar and the lighter blue bar, right? You can see that almost 60—a little bit more than 60%—of the S&P 500’s total cumulative return since January 1st of 2022 is change in earnings growth, so fundamentally driven. You got another, you know, 20 plus percent from dividends. A full 73% of the S&P 500's returns is explained by the fundamental component of that.

Only about 26-ish percent is what we call multiple expansion or change in the price that I'm willing to pay for that dollar of earnings. And normally, when you look at this type of disaggregation, right, you know, that tends to be more midcycle than late cycle. Usually, when you get into the later cycle, you have earnings that start to slow and you have people that are paying for, in that gray bar there, more for the same dollar of earnings as things start to slow down. We're not there yet, and the fundamental story that we'll get into in just a second is really driving the S&P 500 higher.

Phil: Yeah. This is pretty quantitative, but in simple terms the vast majority, roughly three quarters of returns since 2022 has been from earnings growth and dividends.

Brent: Yeah, amazing.

Phil: Just good old-fashioned more money being returned either to shareholders or going back into the company. That is good news. So what about earnings growth?

Brent: Yeah. It's just more good news. And we can't update this slide fast enough. Every week, it seems to change. But when I look at the left-hand side and we think about where we are today, current consensus is expecting that this year earnings will grow at 11%. That's moved up significantly. This quarter, as you mentioned, we're in the heat of earnings season. The estimated growth as of right now is sitting at 9.2%, which again has moved higher. We've seen a significant amount of companies to date. We still have—we're kind of in the belly of earning seasons right now, and certainly things will change as we get more information. But we have more companies that are beating both on revenues, on earnings, and things continue down the line in a positive trajectory.

When you look at analyst expectations for next year, Phil, almost 14% earnings growth year over year. So after an incredible run this year, we're expecting 14% on top of that. Compare that to the average of 7.6 since 1950, corporations are firing on all cylinders. And when you look at the chart on the right, when I think about bottom up, right, corporations reporting, estimated next 12 months operating margins, right? We we were talking about this in our last webinar at 18.2%. They were the highest ever recorded. Well, you can see where we are right now. We're now moved up to 18.4%, which is now the highest ever recorded. So when I think about forward operating margins, revenues, earnings per share, the fundamental side of the equation for corporate America and specifically for large corporations is exceptional.

Phil: Right. This earnings season, north of 80% of companies are beating expectations. You usually see beats, but that's more than average. Usually, that number's around in the 70s. So companies are beating, and margin expectations continue to rise.

So let's talk about the dollar. This is something when we're on the road that comes up consistently, and what the question is is, there's a lot of dollar weakness. What does this mean? Where does it go? Et cetera.

So here we're showing the US Dollar Index. This is a weighted index across various currency pairs with the dollar. And what you'll notice is that the dollar, yes, it has weakened about 10% this year. What's incredible, though, is if you move your eye to the left, it's really just where it was late 2021, early 2022. So a lot of this is after some pretty incredible dollar strength.

A few things with dollar weakness this year. First of all, it helps corporate earnings. Every 10% move lower in the dollar translates to 2.5% gain in earnings. Why is that? We have a lot of multinational companies. If you sell something, say, in euros, when you bring those euros back for your earnings to a weaker dollar, it's worth more dollars, right, because the dollar has weakened.

Additionally, this does help potentially on the export side of things. So moderately lower dollar really does not keep us up at night, to be honest. This seems more like a normalization to us, not a complete reset.

Brent: And let's—well, if we if we could just talk about, you know, returns for international markets, right, that dollar weakness explains almost half of if I disaggregate the returns of developed and emerging stocks, almost half the returns that we've seen so far year to date in 2025 is a byproduct of that weakening dollar. So when I translate those earnings and that growth back, we end up seeing a significant appreciation for international securities.

Phil: Absolutely. So let's talk about our S&P 500 price target. We generally change this on a quarterly basis. We adjusted it a couple months ago, so not adjusting it this month.

Our base case, 6,800, you'll notice that that is now slightly below where the market is trading. To be clear, when we set this, it was up roughly 6%. So the market has moved towards us quite rapidly, but I think it is a reminder that there is a lot of good news priced into the market, and markets don't just move up in straight lines. It does not mean we're bearish. It just means that we have been constructive and the market has moved quite rapidly to our base case. I will point out that the bull case is playing out. Earnings continue to rise. We've got to see what happens this earnings season.

That is still up quite a bit from where we are, considering how far the S&P has risen the last 2 years. Bear case, this of course is more of a recessionary environment. There is asymmetry there. There's more downside to the bear case than upside to the bull case. Why is that? We don't have a cheap market. We have an expensive market, so there is more downside there.

But I don't want you to see that negative number next to base case and say, oh, Phil and Brent think the market's gonna move down immediately. Simply, we don't reset this this continually, and the market has moved towards what was our constructive view.

Brent: Yeah. And I it's important for listeners to understand. We're not just, you know, wetting our finger and going like, I think it's 6,800.

Phil: That's right.

Brent: But I mean, this is fundamentally driven. As we get through earnings season and we're able to update each quarter's earnings, not only for months 1 to 12, but months 13 to 24 as we forecast that 12-month price target. We will take all that earnings into consideration and multiples and figure out what our base target and bull and bear targets should be. But again, we we try and do it from fundamental.

Phil: That's right. There there is math behind this. Although it's you and me doing the math, so who knows the strength of it.

Brent: So let's shift gears away from equities and talk a little bit about fixed income. What we're looking at here is the US treasury yield curve. The dark blue line is where we were at the beginning of this year, and you can see a steep curve relatively speaking from where we were, but flatter certainly from where we are today. And what you can see is a significant move down in yields across almost every key rate duration here. And obviously, you can see the more significant move is on what we call the belly of the curve. So think 3 years, between 3 and 10.

You've seen some more significant moves of late on the gold line. On the shorter end of the curve, as you talked about the Fed cutting rates, much of the short-end rates tend to move in tandem with Fed funds pricing. But by and large, we've seen a significant move in yields already. And when we think about what that's done for fixed-income prices, as yields fall, bond prices go up.

So year to date, we've seen, like, the US aggregate bond index up roughly, you know, 7%, which is a significant move and and a welcome move for bondholders who haven't really seen fixed income move dramatically. We are starting to see that move. But what I what I will say, Phil, is that we expect a lot of volatility. We don't think that yields are only moving in one direction, and we'll talk in just a second that just because the Fed is cutting rates doesn't necessarily mean that something, let's say, the 10-year moves exactly in a downward trajectory from a yield perspective.

So to that point, what we wanted to highlight here is, let's look at the 10-year US treasury yield. The gold line is the 10 years' move in yield when the Fed started cutting in September of 2024. On the horizontal axis is days since that Fed cut, and you can see 1 all the way through 46. The dark blue line is this time around when the Fed cut rates in September of this year, what did the 10-year treasury yield do? And you can see it's not always the same. In 2024, yields actually moved higher on the 10-year, not down.

Phil: Exactly opposite of what you would expect.

Brent: Exactly. And this year, they've moved probably more directionally in a way that you would expect them to. But look at it this recently. We started to see the 10-year yield move up a little bit after the Fed's rate-cutting actions.

Phil: Second cut.

Brent: Second cut. We've seen actual yields move up on the 10-year. So again, it is not explicit where just because the Fed's cutting, the 10-year is going to fall necessarily. And again, a lot of people care about the 10-year because that tends to be a little bit more correlated to things like mortgage rates and whatnot. So again, a lot of volatility that we expect to see in markets over the coming quarters. And again, it's not necessarily in one direction.

Phil: Yeah. Greenspan referred to this as the great conundrum, that the Fed controls the overnight rate. They don't necessarily control longer-term rates, and longer-term rates are a free market. They're going to move as they're going to move, and that's not always in tandem with the Fed.

Brent: Yeah. And let's look at more broad fixed-income sectors here, and you can see, relative to where we were 6 months ago, 12 months ago, 18 months ago, their yields are much higher but a little bit lower as bond prices have moved up. But when I think about something like a 10-year treasury at 4.1% or the broad US aggregate bond index at 4.3%, municipals at 3.5%, still offering very constructive yields as you're building a diversified portfolio, especially when we were talking about where valuations are for equities and the expected forward return when starting-point valuations are more extended. Again, we do believe that fixed income is offering yield and great diversifier in portfolios and should have a reasonable expected return going forward.

Amy: Hey, before we jump into our next segment, I just want to remind you that we have several publications available throughout the month, including our weekly In Brief series that tells you what to look for in the week ahead that's delivered at the start of each week.

Additionally, we have other publications that come out throughout the month. If that's something that interests you, feel free to subscribe using the QR code or visiting FirstCitizens.com/Market-Outlook. You can also find several of our publications in podcast form on Apple, Spotify and YouTube Music.

Well, thank you guys for going into a deep dive on markets and the economy. Let's jump into questions now. No surprise. First question is on the government shutdown and what we're thinking about from a long-term perspective for markets and the economy.

Phil: So one, I think the impact of the government shutdown is more short term than than long term. It's certainly something that that's on clients' minds. We are getting questions on it. It has been protracted compared to historical standards, and if you believe the marketplace, the betting odds are that it will continue—these things can change very quickly.

From an economic perspective, of course, there is a wage and consumption impact. The real question will be, does back pay happen or not? If back pay doesn't happen, then that impact is actually more lasting than otherwise. From a market perspective and market watcher perspective, the real impact has been that we aren't getting data, right? We haven't had an employment report since the August report. We got a CPI report, but it was late. We haven't gotten third quarter GDP.

So we are using more alternative data, as we pointed out. It's not that we're flying completely blind, but we know less. And this puts market participants in a unique position, but additionally, the Fed. When you think about the Federal Reserve, they have a dual mandate of full employment and price stability, but yet they aren't getting employment reports.

So look, if this were to go on for an unbelievably long period of time, our perspective changes. But for now, I think the impact's more short term.

Brent: Yeah. And I'd say, I mean, if I want to take the, you know, glass half full a little bit, you know, market participants, broad economists, because the government data isn't available, are focusing on other sources of data, which I think potentially longer term—not that we hadn't been using it before, which we clearly all were—but it's almost like being in the pandemic when we all had to shift to video calls. It kind of jumps it forward a little bit. So having to use alternative sources of data to try and understand where we're going from a trajectory perspective can potentially help, you know, broaden out the quality of data once the government comes back in line and we have both sources of data.

So again, to your point, Phil, I think it will be short lived. I think we'll, you know, cooler heads will prevail. But again, the back-pay thing is a big thing from a consumption perspective and certainly from a government worker stability perspective. Certainly, you would want to be paid because many of these folks—think about essential workers like air traffic controllers and the like—that are going back to work, keeping us all safe yet not getting paid. So it'll be interesting to see how this shapes up, Amy.

Amy: And another item in the headlines, of course, is around trade and tariff policy with the White House traveling around the Asian countries right now. What will you be listening to and listening for as those trade talks continue to develop?

Brent: Yeah. I think, I mean, and certainly, we've been talking about tariffs since April. I think it is pretty interesting that when you have, you know, an effective average trade-weighted level as high as we have now, yet it not really feeding back into the corporate side of things yet. Time will tell as we get into next year because remember, a lot of companies built up inventories, you know, basically bought stuff and did things ahead of those tariffs going into place and are still working through those inventories.

I think it could be that potentially next year you might see some of that flow through into higher prices as they're starting to sell tariffed goods versus goods that were built and bought on inventories earlier. I think that will be interesting. Certainly, President Trump and President Xi being together, I think most market participants would probably err on like, you know, again, cooler heads will prevail, and we'll work through these issues. It's more of, it seems the market interprets this more as a negotiating tactic versus something that's going to be more long term and pervasive.

But again, we just can't look through that. We showed the slide where tariff revenue is significant—$360 billion of revenue is a pretty significant number, especially relative to the $2 trillion trade deficit that that we're running. Again, I I don't think tariffs are going to go back to zero, but it's something that the market's going to have to navigate. And again, constantly watching, and I guess with a lack of economic data, maybe more eyes are focused on what's going on as far as trade policy. But again, so far so good.

Phil: And some early indications in terms of meetings with China were productive, right? It looks like 1-year extension of of certain terms, and potentially rare-earth metals flowing to the US, soybeans flowing to China. So it looks, at least constructive. That's the sort of thing that gives market participants and business owners a little bit more certainty, but nothing appears done. I mean, it does feel that tariffs will remain a negotiation on many fronts and that they can shift fairly quickly.

Brent: Yeah. And taking it to markets, you know, post-Liberation Day is basically effectively look through this data and look to the more fundamental side of what, you know, we talked about as it relates to corporate earning and profitability. I think that's going to continue to be the case, Amy.

Amy: Yeah. And speaking of markets and economic data, there seems to be some kind of divergent going from economic data not looking quite as strong as you both highlighted. But to your point, markets just going through the roof. What are you are you hearing from clients on that front?

Phil: Yeah. I think there's there's a few things to remember. One, the economy and the markets don't just move directly in tandem. Two, when you think about what's driven markets in recent years, a lot of it are very big companies that are more related to AI spending than the traditional economy.

Additionally, when you look at something like the labor market, yes, job gains have slowed, but people generally have jobs, right? We've seen layoffs pick up recently, but as long as people have jobs, they tend to spend. So it's not that all of these things are, you know, signs of economic data is falling through the floor. It's really not. What it's doing is it's muddling along. I view us as a little bit of a muddle-through economy. Right?

And if you think about after the Great Financial Crisis, we had many years that were like that in which the economy was doing okay, not great. There were large segments of our population that were struggling as as they are today. But what did the stock market do? It performed incredibly well. Why is that? Margins were expanding, and margins are expanding now. So, you know, it—look, as we say, the market is a cold beast. Right? It is not—it does not read headlines the way humans do. It's looking at fundamentals.

Phil: Yeah.

Phil: And the truth is, corporate fundamentals have been pretty strong. Can that change? 100%. If some of the early layoff announcements we have seen turn into something broader, the market will price that. I promise you, right? But the truth is, so far those announcements have been fairly contained, and folks are still working. And not to mention, the AI boom is what's driving many of these names far more than the traditional economy.

Brent: And I might even push back a little bit, Amy, when clients do ask that because I think it's it's symptomatic of higher prices, right, to kind of view the economy as in maybe a worse shape than it is and as you and I just covered, right, the economy is actually picking up some steam and some momentum when I think about real GDP.

Coming into this year, expectations were pretty sanguine for real GDP growth. I mean, at a low point in May of this year, expectations for full year 2025 were about 1.35%. And here we are now sitting at about 1.8%. Real GDP for Q2, 3.9% this quarter. Atlanta Fed GDP now still looking strong. We're about 3.9%. So we are actually starting to see a little bit of an economic momentum pick up. Now certainly the labor market at the margin, right again, hiring is slowing unequivocally. Firing, despite what you're seeing in headlines as we show with jobless claims and WARN Act notices, is not necessarily a problem. And even Jay Powell said it in his presser, is that he sees stability or broad stability in the labor market, but, yes, hiring has slowed.

Amy: And the cold beast market. That's going to be your Halloween costume.

Brent: A cold beast market. Joking aside, we say this all the time, and I think people need to understand it. The markets are not the economy, and the economy are not markets. You can't think about it that way. The markets are a forward-looking pricing mechanism. The economy is what's happened broadly, right? So you can't conflate the two. So it's important that, again, in these environments, we always say this, that many of our clients should constantly have a thoughtful financial plan.

Think about making sure that their portfolio construction or asset allocation is tied to that forward-looking plan or if it's an institutional client or investment policy statement, what their goals and objectives are and not worry about the news of the day. There's just so much that we have from a headlines perspective. And it's easy to be taken off course by listening and looking at the news of the day. That is rarely a good thing to do, and having a long-term plan is what we think, Amy, is the most importnat.

Amy: Well said. Well, thank you all for listening. We hope you found this information helpful. We want to thank you as always for trusting us to bring this information to you. We will back with you next month.

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Authors

Brent Ciliano CFA | SVP, Chief Investment Officer

Capital Management Group | First Citizens Bank

8510 Colonnade Center Drive | Raleigh, NC 27615

Brent.Ciliano@FirstCitizens.com | 919-716-2650

Phillip Neuhart | SVP, Director of Market & Economic Research

Capital Management Group | First Citizens Bank

8510 Colonnade Center Drive | Raleigh, NC 27615

Phillip.Neuhart@FirstCitizens.com | 919-716-2403

Blake Taylor | VP, Market & Economic Research Analyst

Capital Management Group | First Citizens Bank

8510 Colonnade Center Drive | Raleigh, NC 27615

Blake.Taylor@FirstCitizens.com | 919-716-7964

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