You know you’re in a wild election cycle when an assassination attempt on a presidential candidate quickly loses its spot as the biggest political news story just a week later.

Yesterday, President Biden announced he was no longer seeking re-election and endorsed Vice President Kamala Harris, seriously shaking up an already chaotic presidential race. His withdrawal came after mounting pressure from top Democrats given his poor debate performance and increasing polling showing that the he was unlikely to win.

What does this mean for markets? The so-called “Trump trade” made a comeback the past few weeks when investors believed Trump had a high chance of being elected. While small-caps have rebounded partially on expectations of a presumptive Republican win, some international stocks slumped as expectations of an aggressive Trumpian trade policy could contribute to a lag in European and Asian economies if implemented.

But some Wall Street analysts think that the Trump trade could reverse, since investments that could get a boost from a Trump presidency, such as oil and gas companies, now make less sense given that the dynamic of the race has switched.

“We have seen some rotation toward ‘red’ sectors and away from ‘blue’ ones in recent weeks as recent momentum has favored the Republican party,” wrote Solita Marcelli, Chief Investment Officer at UBS Global Wealth Management, in a note today. “That could partially reverse in the coming days as markets parse the latest developments.”

Brace for volatility

If there’s one thing that analysts and economists can agree on, it’s that they don’t really know enough to disagree. Most market analysis about elections is based on historical data, and with this unprecedented situation, there isn’t much to base projections on.

“Given the uncertainty regarding replacing a major party nominee and the effort required to digest their major policy priorities on an accelerated timeline, the expectation for volatility may be even greater than normal over the next few months,” wrote Chief of Investment Strategy and Research at Glenmede Jason Pride in a note today.

And while top Democrats, including the Clintons and high-ranking governors, have endorsed Harris, she still doesn’t have the official nomination yet, which leaves some room for uncertainty about the policies of a Democratic nominee.

But it’s important to keep in mind that even in more-straightforward presidential elections, politics is rarely the biggest driver of market movements—even in sectors that are impacted by legislative policies.

“Economic data and Fed Reserve rate-cut expectations remain at least as important,” Marcelli wrote. “Much can still change ahead of November’s ballot and a range of outcomes remain possible.”—LB

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As the chart above points out, we’re in the thick of earnings season now.

Bank of America’s Head of US Equity & Quantitative Strategy Savita Subramanian wrote in a note published today that the 71 companies on the S&P 500 that have reported earnings thus far have beaten consensus EPS by 5% in aggregate, while sales have beaten consensus by 2%.

But while last quarter’s earnings reports have brought good news, management teams are a little less optimistic about the future, according to BofA’s analysis of sentiment in earnings calls.

“Although still very early, our Corporate Sentiment Score ticked down from the record high level so far in 2Q. But on an absolute basis, the score remains strong,” Subramanian wrote. “The sentiment indicator has been a leading indicator of S&P EPS YoY (69% correlation with a quarter lead), which suggests slowing EPS growth ahead. But we caveat that EPS growth has lagged the sentiment score this cycle and we expect accelerating EPS growth in 2H.”

🟢 What’s up

• Reddit was upvoted 5.30% on the news that the company has sealed a deal with five major US sports leagues.
• Nvidia popped 4.76% on a report that the company is working on China-specific semiconductor chips that will sidestep US trade restrictions.
• Mattel soared 15.10% after the company was approached with an acquisition offer from private equity firm L Catterton.
• Tesla climbed 5.15% ahead of the EV maker’s earnings report after the bell.
• AMC Entertainment Holdings leapt 5.31% following an announcement that the company will refinance its debt.
• Iqvia Holdings jumped 9.30% after a meet-and-beat second-quarter earnings report.

What’s down

• Crowdstrike withered another 13.46% as the fallout from what’s being hailed as the largest IT outage in history continues to punish the stock.
• Trump Media & Technology Group dipped 0.83% during the trading session after President Biden’s announcement that he’s dropping out of the presidential race.
• Verizon sank 6.04% after whiffing on its earnings report, missing on revenue thanks to customers holding on to their old phones for longer.
• Ryanair crumbled 15.41% following an earnings report that revealed the company’s earnings after taxes sank an eye-watering 46% last quarter.
• Starbucks dropped 3.43% on a report by the Wall Street Journal late last week that activist investor Elliott Investment Management has taken a stake in the coffee chain.

Investors’ reaction to President Biden’s withdrawal from the election race may not be evident in stock market moves (yet), but various election projections are helping to accelerate another market trend: Investors are exchanging small-cap stocks for tech, seemingly thanks to the so-called “Trump trade.”

We’ve said it before but we’ll say it again: Only a few key tech companies supercharged from AI hype drove the bull market that caused the S&P 500 to climb 22% over the past 12 months. In fact, Nvidia alone has contributed more than a fourth of the S&P 500’s 16% return year-to-date so far. And Nvidia, along with Microsoft, Apple, Google, Amazon, and Meta, account for over half of the S&P 500’s return in 2024, according to Goldman Sachs research.

But small caps are finally getting their day in the sun—and investors are rushing to get in on the gains. The Russell 2000 index handily outperformed the S&P 500 over the past five days, as the small cap index jumped 9% over the same time period that the S&P 500 declined 1%.

What’s driving the tech exodus? The “Trump trade” caught all the attention last week at the exact same time that small caps were surging, but there are plenty of reasons beyond the rotation for smaller stocks to pop. Goldman Sachs analysts led by Chief US Equity Strategist David Kostin laid out four reasons that small caps are having a moment:

• The Fed is expected to finally cut rates in September due to consistent data showing inflation is decelerating, which is giving all corners of the market a boost.
• Data shows the economy is growing steadily, even with high interest rates.
• Investors foresee a Republican sweep during election season, which some traders believe would boost small caps and sectors like oil and gas.
• Investors are worried that large-cap growth will stall, and that some AI stocks will face a selloff at any slightly negative earnings news.

Should you think smaller?

If we know anything by now, it’s that this election cycle is unpredictable. In just the last few days one of the reasons for the small-cap rally—a Republican sweep—has suddenly become a lot less of a certainty.

The bottom line that analysts keep coming back to is that macroeconomic factors like rate cuts tend to matter more to the market than politics.

The Wells Fargo Investment Institute reiterated in a note today that the election shakeup doesn’t hold more weight than fundamentals, and in fact pointed to the small-cap rally as an example of investors paying attention to the wrong factors.

“The explosive rally in small-cap equities illustrates the difference between reaction and rotation,” they wrote. “We believe that Trump policies that would try to extend business tax cuts and reduce regulation, but the analysis is just headlines and incomplete. Other Trump policies—most notably tariffs—could damage small companies, which tend to have relatively more trouble than large ones to source products,” wrote Head of Global Investment Strategy at Wells Fargo Investment Institute Paul Christopher.

In short, even with the “Trump trade” fading, there are still plenty of reasons for the market rotation to continue.

“The recent trend of small-cap outperformance will likely persist unless the macro environment changes substantially, or the mega-cap Tech stocks report 2Q results that causes analysts to raise revenue forecasts for the next several quarters,” Kostin concluded.—LB

• Kamala Harris is the presumptive Democratic presidential nominee, and investors are trying to figure out what that means for their portfolios.
• Bitcoin crashed under the wave of new supply released by Mt. Gox and the German government a few weeks ago. Britain might unleash its $5 billion in bitcoin next.
• The largest IT outage in history could cost over $1 billion in damages. The only question is, who pays?
• American Airlines was able to reach an agreement with the flight attendant union and avoid a strike. But it looks like Disney can’t say the same.
• Russian superyachts were seized en masse over the past few years. Here’s what happened to them all.
• These 22 stocks could crash 40% over the next two years for one simple reason: overconfidence.

Tomorrow’s economic big report is existing home sales, which, if history is any indicator, won’t be pretty.

Last month’s report revealed that sales fell 2.8% year over year to 4.11 million homes sold, and economists expect that with interest rates remaining right where they were, there will be even fewer homes sold as the expenses keep homebuyers out of the market.

Speaking of expenses, last month also saw the median home price in the US rise 5.8% to $419,300—a new record high that anyone trying to buy a house hopes won’t be broken this month.

Before the open:

• UPS (UPS) is a bellwether for the US economy, making this report one to watch even if you’re not planning to invest. But if you are, it’s probably because of the company’s market dominance, strong dividend yield, and recent history of steady earnings growth. Consensus: $2.01 EPS, $22.26 billion in revenue
• Spotify (SPOT) has the same problem all subscription companies have: It must balance subscriber happiness with costs. The company has raised prices recently and it doesn’t seem like customers rebelled, though this quarter will reveal more insights into subscriber numbers. Wall Street likes what it sees, though, with 21 of 29 analysts who cover the stock giving it a “buy” rating and an average price target 20% higher than where it trades today. Consensus: $1.18 EPS, $4.09 billion in revenue

After the close:

• Alphabet (GOOG, GOOGL), like many of its Magnificent 7 peers, has spent exorbitant amounts of money to stay in the AI race. Investors accepted this as a matter of course with the payoff to come later, but questions are beginning to arise about how much is too much. Wall Street is keeping an eye on costs this quarter, but seems confident the company’s top line revenue will continue to grow. Consensus: $1.84 EPS, $84.10 in revenue.
• Tesla (TSLA) and its CEO have been in the news plenty this quarter, but now the rubber meets the road. Analysts will likely have questions about the delayed robotaxi event, and investors will want to see a slowing decline in EV production and deliveries. Wall Street’s average price target is 23% lower than where shares stand today, but Tesla has made a habit of outperforming expectations. Consensus: $0.60 EPS, $24.19 in revenue

In December 2022, Southwest canceled nearly 17,000 flights just in time for the holidays after aging technology caused a meltdown across its systems. The company’s shares sank, management was hauled in front of Congress to explain itself, and the Department of Transportation levied a record fine on the airline.

Turns out, Southwest’s old-school systems may have just saved it from serious pain this weekend.

Crowdstrike’s outage has kept flights across the world grounded since late last week as a blue screen of death greets anyone trying to book a ticket. Many travelers remained stranded through the weekend as Delta Air Lines, United Airlines, and American Airlines scrambled to find a workaround.

Delta had it the worst, and canceled 1,326 flights on Friday when the outage began. But Southwest, which uses the ancient Microsoft Windows 3.1 across its systems and therefore didn’t experience the new Microsoft update that has bricked computers across the globe, only canceled a mere three flights on Friday.

The software was launched in 1992, as Southwest’s management has apparently taken the “if it ain’t broke, don’t fix it” mentality to an extreme.—MR