The stock market’s enthusiasm faded in the final stretch of a solid quarter, with traders keeping a close eye on any news regarding the U.S. presidential race and remaining cautious ahead of Sunday’s elections in France.

Traders across multiple sectors are rearranging their positions in the aftermath of the debate between Joe Biden and Donald Trump. Biden’s shaky performance boosted sentiment around Trump’s odds for securing a second term in the White House. The result: shares of private prisons, credit-cards companies and health insurance firms — the groups that would potentially win from another Trump presidency — are trading higher, while renewable energy and cannabis stocks are in the red. 

JPMorgan Chase & Co.’s Marko Kolanovic says the S&P 500 will falter in coming months in the face of mounting headwinds, from a slowing economy to downward earnings revisions. The gauge is poised to plunge to 4,200 by year-end, a roughly 23 per cent drop from Thursday’s close, he said.

“There is a clear disconnect in the huge run-up in U.S. equity valuations and the business cycle,” the strategist wrote, adding that the S&P 500’s 15 per cent year-to-date gain isn’t justified, given waning growth projections.

After gaining almost 1 per cent earlier Friday, the S&P 500 fell. Long-term Treasuries largely underperformed shorter maturities. Bonds hnad earlier gained as inflation data that bolstered bets on Federal Reserve rate cuts. 

“There is no spin for President Joe Biden’s performance last night during his debate with former President Donald Trump,” said Libby Cantrill at Pacific Investment Management Co. “He lost the debate on style, and in doing so not only failed to reassure swing voters that he is up for the job, but deflated his base of supporters as well.”

Cantrill says prediction markets are betting that a Trump victory is a higher probability event, and she still thinks it is very hard to see Biden dropping out 

“With all of that said, for markets, the biggest takeaway from last night is that deficits will remain high and tariffs are likely going up, especially if Trump gets elected; the question is when this will be priced-into markets, she noted.

Andrew Brenner at NatAlliance Securities reiterated his commment that a Trump victory in the debate would put pressure on the long end of the bond market.

“Again, we don’t like talking about politics, but everyone believes Trump won the debate on a weak performance from Biden, he said. “Fears of what tariffs, lack of concern for the deficit (both parties), and continued fear of increasing Treasury issuance, will do for the curve... Steepen it out... That is what we have seen today...”

Stocks are heading into the second half having gained about 15 per cent this year. Historically, a strong first half tends to be followed by above-average second-half returns, according to Adam Turnquist at LPL Financial.

“While elevated valuations, overbought conditions, and underwhelming market breadth point to a potential pause ahead, seasonal trends suggest momentum could continue in the second half,” he noted.

The S&P 500 has followed up a positive first-half return with an average second-half gain of 6 per cent, Turnquist added. Furthermore, when first-half gains were 10 per cent or higher, the index posted average gains of 7.7 per cent in the second half, with 83 per cent of occurrences producing positive results.

The U.S. presidential election and its aftermath promises investors big market swings in the second half of the year, says Goldman Sachs Group Inc.’s Scott Rubner.

The global markets division managing director and tactical specialist has been correctly bullish on U.S. stocks in May and June, but after July 17 he is modeling a correction in the stock market — this usually means about a 10 per cent drop for equities. 

“I would be looking to trim exposure up here post July 4th,” Rubner wrote in a note to clients Friday.

Earlier in the session, traders kept a close eye on economic data.

U.S. consumer sentiment declined by less than initially estimated on expectations inflationary pressures will moderate. The Fed’s preferred measure of underlying U.S. inflation decelerated. Household spending rebounded and incomes showed solid growth, offering some hope that price pressures can be tamed without lasting damage to consumers.

“From the market’s perspective, today’s PCE report was near perfect,” said David Donabedian at CIBC Private Wealth U.S. “The Fed’s favorite inflation indicator not only showed inflation was moving towards the Fed’s inflation target, but that the economy is resilient. Consumer spending was on the rise and take-home pay was also up after a couple of sluggish months.”

Softening in the measure of inflation favored by the Fed highlights a slowing economy that’s upping the risk of a policy error by the central bank, Mohamed El-Erian said.

“The economy is slowing faster than most economists expect and faster than what the Fed expected,” El-Erian, the president of Queens’ College, Cambridge and a Bloomberg Opinion columnist, told Bloomberg Television on Friday.

To Seema Shah at Principal Asset Management, while the inflation data is a relief and will be welcomed by the Fed, the policy path is not yet certain. 

“A further deceleration in inflation, ideally coupled with additional evidence of labor market softening, will be necessary to pave the way for a first rate cut in September,” she noted.

Fed Bank of San Francisco President Mary Daly told CNBC said the latest inflation data indicates monetary policy is working, but said it’s too early to tell when it will be appropriate to lower borrowing costs. Earlier Friday, her Richmond counterpart Thomas Barkin said the inflation battle still hasn’t been won, and the U.S. economy is likely to remain resilient as long as unemployment remains low and asset valuations high.

“The soft inflation data will build the case that the Fed can start cutting rates in the coming months,” said Jeffrey Roach at LPL Financial. “As long as incomes grow at a healthy clip, consumers will keep spending. The key is the labor market and so now, we should shift our attention to next week’s nonfarm payroll release for a fresh look into the job market.”

The timing of the first rate cut matters because bonds rally in anticipation of that cut, according to Joe Kalish at Ned Davis Research.

“Any second half bond market outlook is contingent on Fed policy,” he said. “The timing of the first rate cut has historically been important for the bond market, as yields tend to peak 2-3 months before the first rate cut.”

Corporate Highlights:

• Uber Technologies Inc. and Lyft Inc. agreed to a series of worker benefits to resolve a longstanding state lawsuit in Massachusetts that challenged drivers’ employment status as independent contractors, putting a stop to the companies’ bid to take the issue before voters in November.
• Rite Aid Corp. has been cleared to exit bankruptcy after winning court approval on a restructuring plan that’s poised to save the ailing pharmacy chain from liquidation by handing control of the business to key creditors.
• Microsoft Corp.’s US$13 billion investment into OpenAI Inc. is set to come under added scrutiny from European Union’s antitrust watchdogs, who are poised to quiz rivals about the AI firm’s exclusive use of Microsoft’s cloud technology.

Nokia Oyj has agreed to buy Infinera Corp. in a $2.3 billion deal that will expand the company’s networking products for data centers and increase its presence in the U.S., a potentially key source of growth as the boom in artificial intelligence drives demand for server capacity.

Some of the main moves in markets:

Stocks

• The S&P 500 fell 0.4 per cent as of 4 p.m. New York time
• The Nasdaq 100 fell 0.5 per cent
• The Dow Jones Industrial Average fell 0.1 per cent
• The MSCI World Index fell 0.3 per cent

Currencies

• The Bloomberg Dollar Spot Index fell 0.1 per cent
• The euro was little changed at $1.0710
• The British pound was little changed at $1.2641
• The Japanese yen was little changed at 160.92 per dollar

Cryptocurrencies

• Bitcoin fell 2.2 per cent to $60,082.15
• Ether fell 1.8 per cent to $3,377.67

Bonds

• The yield on 10-year Treasuries advanced 11 basis points to 4.39 per cent
• Germany’s 10-year yield advanced five basis points to 2.50 per cent
• Britain’s 10-year yield advanced four basis points to 4.17 per cent

Commodities

• West Texas Intermediate crude fell 0.3 per cent to $81.53 a barrel
• Spot gold fell 0.2 per cent to $2,324.07 an ounce