Small-cap stocks and junk bonds are soaring, is the market "all in" on a soft landing in the United States?

The continued slowdown in inflation data and the still-strong U.S. economy have convinced investors that the Federal Reserve has ended its historic tightening action and plans to cut interest rates in the first half of next year. Their strategy is: All in! ## Speculative mania has returned to small-cap stocks, junk bonds have soared over the past week, and while still facing geopolitical and interest rate hikes, the U.S. stock market has arguably entered the carnival ahead of schedule. Small-cap stocks have risen more than 5% in the past week, the second-highest weekly gain of the year, and relative to the gains of large-cap stocks, they have soared to their highest level since February 2022. Meanwhile, all three major U.S. stock indexes rose more than 2 percent this week, their best weekly performance since early summer. According to EPFR Global, global equity funds saw their second-largest inflow of funds this year, and Wood Sister's ARK Innovation ETF(ARKK) also had its biggest week of inflows this year due to the prevalence of interest-sensitive speculative technology stock speculation.! and high-yield bonds (junk bonds) are back in vogue after three months in the cold, with funds tracking high-yield bonds taking nearly $11 billion in the last week. **Speculative mania is spreading in the market, and many investors believe that the United States can maintain economic resilience and avoid recession in the most aggressive interest rate hike cycle in history. Although last week's more than expected slowdown in the CPI report and strong performance in retail spending and housing, evidence of a soft landing for the US economy is gradually increasing. **Since the beginning of November, data on everything from the job market to consumer sentiment and retail sales have shown that the momentum of US economic growth has been slightly insufficient, but better than expected in the worst case. Third-quarter earnings on the S & P 500 index are expected to grow about 4%, compared with a 1% decline expected a month ago. **But looking back at history, there are many examples of interest rate hikes that seem to be able to make a soft landing after a cycle and end up in recession. Wells Fargo Investment Institute told the media that the so-called soft landing is a dream **: >" Either the economy accelerates again and inflation follows, which will cause the Fed to start a new round of interest rate hikes and a harder landing later. Or, the soft landing will quickly turn into a broader and deeper economic slowdown." While bets on a soft landing fueled three straight weeks of gains in the S & P 500, much of the rally was the result of gains in technology stocks, which have been shown to withstand the effects of the economic cycle. The rise in small-cap stocks remains a blip in the long-term chart, with these stocks down 20% since the beginning of last year, while financial companies have had a lackluster year in 2023 and the equally weighted S & P 500 only recently turned positive. Overall, though, money managers are showing signs of more sustained optimism. According to a survey by Bank of America, **nearly 75% of investors surveyed recently said that a soft landing is their basic view of the global economy in 2024 * *. ## Goldman Sachs and other institutions have been vocal in warning Goldman Sachs head of multi-industry entrenchment Lindsay Rosner believes:> "The lesson of the past few years is that all good investors must be humble when making economic forecasts. It is best to keep in mind that there are many possibilities for where things are going, and the probability of a soft landing is not 100 percent." Goldman Sachs is concerned that US inflation, while continuing to slow, is still above target and that US consumers and economic growth are clearly able to withstand higher interest rates. Vickie Chang, a macro strategist at Goldman Sachs GIR, wrote in the latest research report: "I think we are back to the FCI cycle, that is, first tightening, then easing, and then back to the period of tightening. This is because of the inherent difficulties of targeting financial conditions. To formulate monetary policy. Chang noted that the market will always challenge the boundaries of FCI until the Fed steps in or other factors push it back to a tense state. Goldman Sachs believes that the market is too optimistic about future interest rate cuts, and this week's FCI easing is unlikely to continue, especially in terms of interest rate easing.> After the Fed policy meeting, the market moved quickly to eliminate the Fed's influence. Even before the rally we saw this week, further declines in yields had begun to "go too far", as the market clearly expected the Fed to make more rate cuts, which exceeded the "weighted path" we calculated based on various scenarios.>> From the Fed's meeting to last week, FCI's easing was largely due to higher stocks and tighter credit spreads.>> But this week is higher stocks, tighter spreads, and looser interest rates. So now it feels like the market is highly dependent on the following two points:> > 1) economic growth is maintained (if there is any inclination, the risk is to tilt upward as seen in cyclical stocks and default swaps);> > 2) more sharp interest rate cuts than we predicted.>> At some point, the two pillars of this FCI easing will contradict themselves, and the market will have to think more about the Fed and higher yields. I think this is a risk that needs to be guarded against. Chang's basic conclusion is that the current macro backdrop supports a small rise in the stock market, narrowing spreads and lower volatility, but does not clearly support a sharp decline in interest rates and weak economic growth (which implies a decline in risk assets). Goldman Sachs noted that the correlation between bonds and equities (prices) remains near high, and that as the FCI cycle remains in place, a decline in long-term yields and term premiums could spur the Fed to re-tighten financial conditions.