From the US Market Desk: Broad participation. Bullish rotation.

Macro

• Data continue to indicate the US economy remains resilient. The December 4 Atlanta Fed GDPNow estimate suggests a 3.8% real GDP growth rate for the third quarter (Q3).
• Ahead of the critical December 9-10 Federal Open Market Committee (FOMC) meeting, the U-3 unemployment rate was 4.3%, the highest since October 2021. We see the argument for emphasizing the employment side of the Federal Reserve’s (Fed) dual mandate.
• The Fed seems split ahead of the meeting, with a handful of members seemingly willing to cut interest rates again. This has made futures pricing volatile. Just days before the meeting, fed fund futures suggested a 95% chance of a 25-basis-point (bp) cut. Similarly, two-year US Treasury note yields were 3.53%, 25 bps below the lower fed funds band of 3.75% to 4.00%. 
• Inflation expectations continue to drift lower. One-year inflation breakeven rates are now 2.58%. This is essentially the lowest level of projected one-year annualized inflation we have seen this year. The same is true for two-year breakeven rates at 2.48% and five-year breakeven rates at 2.35%. These are very close to the lowest readings of the year.
• Considering the combination of the rising U-3 rate and lower breakeven rates, I think the decision will be to cut rates.

Equities

• Readers of this newsletter should not be surprised by the recent market volatility. In our recent white paper “How US equities and US fixed income performed with a resumption of Fed easing,” we pointed out that, historically, returns one year after a resumption of rate cuts have been positive on average (+17% for the S&P 500 Index¹). The prior periods of cutting-cycle resumptions have also exhibited heightened volatility, with the market on average falling 5% to 10% within the first three to six months of the resumption.² We reiterate that our Global Investment Management Survey’s year-end target range for the S&P 500 Index is 6,400‒6,800.
• We will be releasing our 2026 Capital Market Outlook in coming days. We continue to advocate for diversified exposures. 
• Allow me to make a few critical observations. First, market breadth continues to improve. Last week, the Russell 1000 Value Index reached a new all-time high (ATH). The S&P MidCap 400 Index, the Russell 2000 Index, and the S&P 500 Equal Weight Index also reached new ATHs. The S&P 500 and the Russell 1000 Growth Index did not. I consider this rotation bullish, and it is being driven by attractive, forward two-year cumulative earnings growth rates across the board. At the index level, forward earnings growth rates are the strongest in small-cap space, both growth and value. Forward earnings power remains strong in technology. The mid-cap space also has very strong forward earnings growth. My key point is that this market is broad because forward earnings growth is also broad, and stock prices historically have followed earnings over time. Contact us if you would like to see the empirical data.
• My second point is a proof of how critical earnings are to stock prices. The S&P 500 Index was up 15% in the trailing 12-month period of November 2024 to November 2025. Franklin Templeton Institute Market Strategist Lukasz Kalwak decomposed the drivers of return and found that 12.43% of this 15% return derived from earnings. In other words, earnings explained 83% of the move. Of the 15% return, dividends accounted for 1.29%, and price-multiple expansion accounted for 0.98%. We are of the view that earnings growth will be robust going forward. This is an earnings-driven tape.
• Third, projected cumulative earnings growth rates for 2026 and 2027 are also strong around the world, with emerging markets in the pole position. European earnings power remains robust, as does forward earnings power in Japan. We see reason to have exposure to global equities.
• Fourth, and arguably the most important observation, is this: In the past week, the big money-center banks and investment banks also made new ATHs. Citigroup, Wells Fargo, Morgan Stanley, Goldman Sachs and Bank of America all made new highs. The stock market historically has not cratered when the financials sector was at new highs.
• With reported earnings coming in well ahead of consensus expectations in Q2 and Q3 of 2025, and forward earnings increasing, we remain bullish on stock fundamentals. Our research shows the market has shown strong performance in periods when the Fed has cut rates in the context of economic expansions. Add in the strength of the big banks, and it's hard for us to get bearish. We retain our preference to look for opportunities to buy on weakness and spread exposures out.

Fixed income

• Interest rates have exhibited high intra-day volatility since the October FOMC meeting. US 10-year Treasury yields have fluctuated between 4.05% and 4.20%. We are currently at the low end of the range. The two-year Treasury yield has moved lower, and the US yield curve has steepened modestly, with the 10-year‒2-year spread moving from 48 bps on October 29 to 57 bps in early December. We expect more yield-curve steepening in 2026.
• As mentioned, we will release our 2026 Capital Market Outlook in coming days. One highlight is that we expect short-duration fixed income mandates and corporate credit will likely outperform cash again next year.
• Despite fears of a looming credit crisis, we see little evidence of that in corporate bond spreads. Investment-grade yield spreads (1-3 year option-adjusted spreads, or OAS) are 51 bps over Treasuries. High-yield spreads, as proxied by the Bloomberg US Corporate HY OAS, are 267 bps over. Both measures are well within average spread levels over the past 10 years. Corporate fundamentals appear healthy on this measure.
• We maintain the belief that fixed income will play an important role in portfolio performance moving forward and remain bullish on municipal bonds and higher-quality corporates.

Sentiment

• Investor sentiment shifted meaningfully last week. According to the AAII Sentiment survey, the percentage of investors that are bullish for the next six months stands at 44%, up from 32% in late November. Similarly, the percentage of investors that are bearish for the next six months plunged from 49% in mid-November to 31% today. The percentage of bears is at the lowest level since January of 2025. This bears (pun intended) watching. These readings are not extreme yet, but they have my attention. Remember, we consider this a good contrary indicator.

In this holiday season, I wish you and yours the best.

Source of data (except where noted) is Bloomberg as of December 5, 2025. There is no assurance that any forecast, projection or estimate will be realized. An investor cannot invest directly in an index, and unmanaged index returns do not reflect any fees, expenses or sales charges. Important data provider notices and terms available at www.franklintempletondatasources.com.