The US economy is currently caught in a tug-of-war between conflicting signals: energy inflation and its spillover effects caused by high oil prices in the Middle East, fiscal deficits, and persistent labor shortages are all headwinds; corporate profits are maintaining high growth thanks to AI capital expenditures; and the Federal Reserve's interest rate decision and policy shifts following the midterm elections are adding significant uncertainty to equity markets and asset pricing. This article, based on recently collected information, attempts to outline the overall picture of the current US capital market for readers.

A Mixed Bag of Fundamentals: The Long-Standing Challenges of Housing, Inflation, and Oil Prices

The internal signals of the US economy are mixed, with structural contradictions persisting. Inflationary pressures have not completely dissipated, with energy prices being a significant disruptive factor. The market is hoping for a de-escalation of tensions in the Middle East to lower oil prices and alleviate inflation stickiness. The housing market remains a long-standing problem: strict zoning regulations and lengthy approval processes suppress new housing supply, leading to a large influx of residents into a few high-cost cities, continuously raising the barrier to homeownership. Market sentiment is also changing, with many believing that buying a home is not the only option, and renting is sometimes a more rational financial decision in a high-price environment. Simultaneously, there are calls for policy adjustments, such as raising the tax exemption for capital gains on owner-occupied homes to alleviate the tax burden on families upgrading their properties.

Hidden Concerns in the Employment Sector: The Federal Reserve's Dilemma Gradually Emerges

Federal Reserve Chairman Warsh recently stated at a press conference that overall employment is stable, with the unemployment rate remaining low and initial jobless claims at multi-decade lows. However, beneath this rosy surface, the intrinsic growth momentum of employment is weakening. This year, the average monthly increase in non-farm payrolls is only 68,000, and institutions predict only 55,000 new jobs in October, with the unemployment rate remaining at 4.2%. The core issue is the contraction in labor supply, with tightening immigration policies and an aging population jointly compressing the labor pool. Although the overall scale of layoffs is not high, the difficulty for the unemployed to re-enter the workforce is increasing, and the proportion of long-term unemployed continues to rise. Significant industry differentiation is evident, with recruitment in the previously stable healthcare and social welfare sectors cooling considerably; only construction, manufacturing, and data center-related positions are showing a slight recovery. This presents the Federal Reserve with a thorny dilemma: raising interest rates can suppress inflation, but high financing costs will further drag down the already weak job absorption capacity. Policy requires delicate maneuvering, aiming to suppress inflation without triggering a significant weakening of employment.

US Treasury yields fluctuated wildly, and expectations for interest rate hikes remain uncertain.

Interest rate expectations are the main driver of all asset pricing. The Federal Reserve maintained the federal funds rate at 3.75%-4.00% at its October meeting; however, inflation is still some distance from the 2% target, and the futures market prices a probability of about 75% for another 25bp rate hike in December. The 10-year Treasury yield surged to 5.36% in early October, a 24-year high, before falling back below 5%. This rapid repricing of yields impacted the entire asset market. Most surveyed fund managers predict that interest rates will likely fall within the 4%-4.25% range by the end of the year, with over half of institutions believing that the current interest rate level is generally appropriate. In fixed-income allocation, after years of a bear market, funds are beginning to favor short-duration instruments, primarily bonds with maturities around 3 years, aiming to control duration risk while pursuing coupon income.

The midterm elections may rewrite policy: tariffs and fiscal policy will face changes.

This institutional survey shows that 84% of surveyed investors expect the Democrats to gain control of Congress, while two-thirds predict the Republicans will retain the Senate, ultimately resulting in a divided Congress. A key point to watch on trade is that the power to legislate tariffs rests with Congress, and the president's tariff authority can be overturned by Congress. If the Democrats experience a "blue wave," there is a possibility that Congress will repeal existing tariffs. The market's evaluation of current fiscal policy is low, with only 5% of institutions giving the current administration's fiscal policy an "A," while 60% gave it a "D" or "F." Unrestrained fiscal spending and tariff policies are seen by many investors as significant drivers of rising long-term US Treasury yields.

The AI trading landscape is shifting: the computing power frenzy is subsiding, and realizing returns is becoming the core challenge.

The core engine of this round of US stock market bull run is the AI capital expenditure cycle, but the divergence among institutions has become significantly amplified. Bullish views argue that ChatGPT has only been in operation for four years, compared to the eight-year capital investment cycle of the internet in the 1990s, indicating that the AI upswing cycle is still in its early stages. FactSet data shows that the S&P 500's EPS is expected to surge by 34.4% this year and continue to grow by 16% in 2027, with high earnings growth supporting the market. Bearish views, however, continue to warn of the risks of over-concentration in a single AI sector: excessive capital concentration, with Nvidia's model of providing credit support to customers for chip procurement being compared to the cyclical supplier financing during the dot-com bubble. Survey data is highly indicative: only 37% of institutions believe that AI infrastructure investment will generate positive returns in the next 24 months, while 32% predict it will not be profitable. Market exposure to the computing power sector has narrowed, and there is no longer a blind pursuit of computing power expansion. Many funds are opting for broad-based indices like VOO to diversify the risk of individual AI stock failures and avoid the risk of heavy investment in a single computing power stock. The percentage of fund managers bullish on US stocks over the next 12 months has fallen to 50%, down from 54% in the spring survey; the percentage of bearish managers has risen to 24%, with 26% holding a neutral view. In terms of valuation, the S&P 500's projected 2027 PE ratio is 18.4, slightly below the five-year average. Bulls believe that as long as earnings don't collapse, valuations are not expensive; however, 40% of institutions still consider the market overvalued, while only 10% believe it is undervalued. In terms of sectors, information technology and healthcare are the most favored, but the technology sector is also one that some funds want to avoid. Regarding global allocation, nearly half of the institutions believe US stocks will outperform overseas markets in the next year, but 71% are optimistic about non-US equities, and 38% plan to increase their overseas positions, with European banks being the most favored; emerging markets are generally cautious, as the environment of a strong dollar and high US Treasury yields is not favorable. Another noteworthy detail: only 51% of professional investors outperformed the S&P 500 this year. The combination of technology-heavy investing and significant macroeconomic volatility has greatly increased the difficulty of active management.

Subsequent key market tracking clues

First, oil prices and inflation are the most crucial clues affecting interest rates, investment risk appetite, and valuations. Then, the October non-farm payroll data released on November 6th will verify whether high interest rates continue to erode employment, and together with inflation, determine the neutral interest rate and the Fed's interest rate direction. Here, the 2-year Treasury yield is a key indicator to watch as a leading indicator for interest rate decisions. Meanwhile, the trend of long-term US Treasury yields continues to determine the valuation center of growth stocks. Next is the final result of the midterm elections, which may be announced in about two days or postponed. The current baseline scenario is that Trump loses the House of Representatives but retains the Senate, and the White House may face another shutdown risk around December 11th. The currently effective temporary funding bill (CR) was signed on September 2nd, maintaining federal funding until December 11, 2026. Then, the capital expenditure and cash flow realization of AI companies, as well as the dense Q3 earnings reports, will verify whether AI investment can be converted into real profits, determining whether the tech stock rally can continue. Afterwards, if the AI sell-off weakens and market liquidity stabilizes, gold prices can be monitored by observing oil prices, US inflation, and the labor market to see if there is an opportunity for a turning point.