Stocks neared fresh all-time highs last week after the Federal Reserve cut interest rates by a quarter percentage point—its first cut since December—and traders celebrated the prospect of two more potential reductions this year. That exuberance doesn’t just apply to the Magnificent Seven and its Large-Cap technology peers: the S&P 600 is also pushing toward record highs as Small-Cap stocks reap the benefits of a lower interest rate environment. Currently, the markets are pricing in a 91 percent chance of a second 25-basis-point cut at the next Federal Open Market Committee meeting October 28–29.That bullishness has already bled into corporate earnings: More than 22 percent of S&P 500 companies that have provided third-quarter guidance thus far anticipate beating analysts’ expectations—the highest reading in a year, according to Bloomberg Intelligence data. Further signs of loosening monetary policy, including news on Friday that the Securities and Exchange Commission will overhaul investor disclosure rules for publicly traded companies and calls from U.S. President Donald Trump for the regulator to embrace semiannual (rather than quarterly) reporting, have only added to the festive atmosphere.But Wall Street might not want to break out the champagne just yet. As the stock market feeds off the momentum of the latest Fed meeting, the labor market continues to do just the opposite. As discussed in our latest Asset Allocation Focus, the past year has resembled a classic “low firing, low hiring” environment indicative of widespread uncertainty in the market. Demand for workers is slowing, with many economists blaming tariffs on imports for slow hiring practices as employers wait to see how the levies impact their businesses in the long term.At the same time, there are increasingly fewer workers to go around. As Fed Chair Jerome Powell pointed out during a speech in Jackson Hole, Wyoming, last month, tighter immigration policy “has led to an abrupt slowdown in labor force growth.” After the spike in initial unemployment benefit claims several weeks ago, both initial and continuing claims have begun to reverse course—reflecting relatively limited layoffs as companies cling to their existing employees.That creates “a curious kind of balance,” as Powell described it, in which the supply of and demand for talent are dwindling simultaneously. “This unusual situation suggests that downside risks to employment are rising. And if those risks materialize, they can do so quickly in the form of sharply higher layoffs and rising unemployment,” he warned.On the other side of the Fed’s dual mandate to support maximum employment and stable prices, a huge amount of uncertainty surrounding tariffs and inflation remains. With the Fed cutting rates just this past Wednesday, it’s still too soon to tell how the move will play out in the economic data. This week we’ll get more insights on core Personal Consumption Expenditures (PCE) inflation, which has been stuck between 2.6 and 3.1 percent since the end of 2023. As outlined in last week’s market commentary, core inflation—a gauge favored by the Fed that excludes more-volatile food and energy costs—rose 0.34 percent in August, pushing the year-over-year inflation rate to 3.1 percent. This has been consistent with our forecast that inflation would come down post-COVID but the final push toward reaching the Fed’s 2 percent target would be hardest given the nature of the late-cycle economy.As Minneapolis Fed President Neel Kashkari posed in an essay on Friday, the big question remains: “Which side of our dual mandate is at greater risk: price stability or maximum employment?”It’s difficult to imagine a pullback in inflation without an additional softening in the labor market, a catch-22 that could explain why the Fed and other economists are so divided on monetary policy—and why we believe two more cuts by the end of 2025 are far from certain.The past two years have seen a widening bifurcation in the economy, with higher-income households thriving from asset gains while lower- and middle-income families struggled with persistent inflation, high interest rates and increasing debt. We remain steadfast in our belief that it’s a question of when, not if, the economy broadens. Until that happens, however, the Fed is unlikely to adopt an overly dovish stance even as risks continue to concentrate in the labor market.As Powell reiterated in Jackson Hole at the end of August: “A reasonable base case is that the effects on inflation will be relatively short-lived—a one-time shift in the price level. But it is also possible that the inflationary effects could instead be more persistent, and that is a risk to be assessed and managed. Our obligation is to ensure that a one-time increase in the price level does not become an ongoing inflation problem.”Weeks later, following the Fed’s September meeting, Powell struck the same cautionary tone: "… it is such an unusual situation. Ordinarily when the labor market is weak, inflation is low; and when the labor market is really strong, that’s when you’ve got to be careful about inflation. So we have a situation where we have two-sided risk, and that means there’s no risk-free path."With no “risk-free” path in sight, we maintain our steady approach to investing with an unwavering belief in diversification as our guide. Maintaining diversified portfolios with exposures to asset classes that should respond well to various drivers of economic and market broadening can not only help mitigate risk but also unlock new opportunities.Let’s dive further into this week’s data.Wall Street WrapForward-looking indicators show persistent economic challenges: The latest Conference Board Leading Economic Index (LEI) report showed a significant decline of 0.5 percent in August to 98.4, according to data released on Thursday, the largest monthly drop since April 2025. This followed a small 0.1 percent increase in July and continues a trend of faster deterioration: The LEI fell 2.8 percent over the six months between February and August 2025, a faster rate of decline than its 0.9 percent contraction over the previous six-month period (August 2024 to February 2025).“In August, the U.S. LEI registered its largest monthly decline since April 2025, signaling more headwinds ahead,” said Justyna Zabinska-La Monica, senior manager, Business Cycle Indicators, at the Conference Board. “Among its components, only stock prices and the Leading Credit Index supported the LEI in August and over the past six months. Meanwhile, the contribution of the yield spread turned slightly negative for the first time since April.”This once again tripped the recession signal in August. A recession is considered likely or underway when the six-month diffusion index is at or below 50 and the annualized six-month growth rate of the LEI falls below -4.1 percent, as stipulated by The Conference Board’s “3Ds rule”—duration, depth, and diffusion. In this case the index’s six-month annualized pace is now around –5.5 percent, while its breadth of weakness is low (a diffusion index reading of 25), meeting both criteria. The organization has specified that it still doesn’t forecast a recession as of now. It does, however, expect economic growth to slow significantly going forward.Homebuilders’ confidence remains low: The National Association of Home Builders survey showed a builder confidence reading of 32 for the second month in a row in September, below its forecasted rate of 33 and reflecting continual low builder confidence as buyers remain wary of high mortgage rates and tariffs. The latest Housing Market Index from Builder sentiment has now been in negative territory for 17 consecutive months, oscillating between a narrow range of 32 and 34 since May 2025.Builders are more optimistic about future sales, however, driven by expectations of lower interest rates. “NAHB expects the Fed to cut the federal funds rate at their meeting this week, which will help lower interest rates for builder and developer loans,” said NAHB Chief Economist Robert Dietz. “Moreover, the 30-year fixed rate mortgage average is down 23 basis points over the past four weeks to 6.35 percent, per Freddie Mac. This is the lowest level since mid-October of last year and a positive sign for future housing demand.”As buyers wait for lower rates, builders continue to cut prices to incentivize sales. The latest data shows 39 percent of builders cut prices in September, up from 37 percent in August. The average price cut was 5 percent in August, the same level seen every month since November 2024. The portion of builders using sales incentives to entice buyers was 65 percent, relatively unchanged from 66 percent in August.Housing starts fall as building permits decline: Data from the U.S. Census Bureau and U.S. Department of Housing and Urban Development released this week reflected a sharp drop in housing starts and building permits last month against the backdrop of a softening labor market and a surplus of unsold homes, raising questions as to where the housing sector is headed for the remainder of 2025. The lingering impacts of high mortgage rates, which are currently outweighing the positive impact of recent interest rate cuts by the Federal Reserve, have also weighed on housing starts, indicating a potential slowdown in economic activity and consumer confidence even as the Fed signals further rate cuts to support the labor market.Privately owned housing starts were at a seasonally adjusted annual rate of 1.3 million units in August, 8.5 percent below the revised July estimate of 1.43 million units and 6 percent below the August 2024 rate of 1.4 million units—its lowest point in a year. Single-family housing starts in August were at a rate of 890,000, 7 percent below the revised July figure of 957,000.Privately owned housing units authorized by building permits were at a seasonally adjusted annual rate of 1.3 million units in August, the lowest figure observed since May 2020 and 3.7 percent below July’s revised rate of 1.36 million units and 11.1 percent below the August 2024 rate of 1.48 million units. Single-family authorizations reached 856,000 in August, 2.2 percent below the revised July figure of 875,000.New and continuing jobless claims reverse course: The number of new jobless claims fell to 231,000 in the week ending September 13, 2025, according to data released by the U.S. Department of Labor Thursday, a 33,000 decrease from the prior week’s revised figure of 264,000. The decrease marks a swift reversal from the surge in claims exhibited two weeks ago, partially driven by a sharp increase in fraudulent filings out of Texas, according to state officials. The four-week moving average for initial claims was 240,000, reflecting a decrease of 750 from the previous week’s revised average.Continuing claims—the number of people who received benefits after their initial week of aid—fell slightly to 1.92 million for the week ending September 6, 2025, the lowest number of continuing claims since late May and below analysts’ forecast of 1.95 million. The decrease comes after a recent surge in August that brought continuing claims to their highest level since November 2021, consistent with a softening in the labor market as the unemployment rate ticks up to 4.3 percent. The combination of limited layoffs and a cooling jobs market continues to fuel a "low-fire, low-hire" environment reflective of lingering market uncertainty.Retail sales tick up: Recent data from the U.S. Census Bureau showed that retail and food services sales increased by 0.6 percent in August from the prior month to $732.0 billion following a similar increase in July. Total sales for the period spanning June–August 2025 were 4.5 percent higher than the same period last year. The uptick in sales serves as a positive indicator for economic growth while also underscoring the current bifurcation of the market.The Week AheadTuesday: Flash Manufacturing Purchasing Managers’ Index (PMI) data from S&P Global scheduled for Tuesday morning will provide key insights into economic activity, employment and inflation trends in September. Last month’s report, which tracked both the manufacturing and services sectors, showed that the pace of overall growth accelerated in August with a Composite Output Index reading of 55.4, its highest level in eight months. We’ll be watching to see if demand can continue to rise to meet robust sales growth.Thursday: Initial and continuing jobless claims will be out before the market opens. We’ll be watching for confirmation that the labor market is softening and that the previous week’s drop in filings was not just a one-time event. A lower-than-expected claims number would be seen as positive for the market, while an unexpectedly high figure could suggest a more rapidly weakening economy.The Bureau of Economic Analysis (BEA) will release its final estimate of gross domestic product (GDP) for the second quarter of 2025 at 8:30 a.m. EST. The second estimate showed that inflation-adjusted GDP expanded at a 3.3 percent annualized pace in Q2, reflecting faster economic growth than expected. Traders refrained from making any big moves last month amid uncertainty over interest rates and the subsequent tech sell-off. We’ll be watching for any significant revisions to the second estimate and whether investor behavior varies given newly lowered interest rates.Data on durable goods orders for August will also be released at the start of the day. We’ll be monitoring the direction of business spending against a mixed economic backdrop.Finally, the National Association of Realtors will release existing home sales for August at 10:00 a.m. EST. U.S. existing home sales increased by 2 percent in July to a seasonally adjusted annual rate of 4.01 million units, a boost driven by a slight improvement in housing affordability. Rising demand was widespread, with three of four regions reporting increases.The inventory of unsold homes was 1.55 million units, up 0.6 percent from June and 15.7 percent from a year ago. We’ll be monitoring to see whether this trend will be impacted by lower interest rates.Friday: The BEA will release its PCE price index reading for August. Last month’s reading showed that that core inflation, which excludes food and energy costs, ran at a 2.9 percent seasonally adjusted annual rate—higher than June but still in line with estimates. Core PCE inflation has been stuck in a narrow range of 2.6–3.1 percent since the end of 2023, with the current reading of 2.9 percent representing the highest rate since February. We’ll be watching to see if this trend continues now that the Fed has lowered interest rates in an attempt to move closer to its 2 percent target.Original Post