Written by Steve Andrews
Market Performance and Corporate Earnings
U.S. stocks traded within a relatively narrow range from mid-May through late July amid ongoing uncertainty in global markets. During the first week of August, however, markets moved higher and reached new highs as second quarter corporate earnings broadly exceeded expectations.
With more than 90% of S&P 500 companies having reported results, earnings growth has exceeded 45%, nearly double earlier projections. A portion of that increase reflects mark-to-market gains reported by Amazon and Alphabet. Beyond the "Magnificent 7" technology stocks, the other 493 companies in the S&P 500 have also performed well, rising more than 14% year-to-date through August 12, compared with 4.8% for the Magnificent 7.
Some market observers have questioned whether the current market rally resembles the technology-driven surge of the late 1990s. However, forward earnings estimates remain near record highs, suggesting expectations for continued corporate profit growth. From an economic perspective, current stock prices and earnings projections indicate that investors remain optimistic about the U.S. economic outlook.
Manufacturing Activity Remains Strong
Although employment data has softened somewhat in recent months, U.S. manufacturing activity continues to expand.
The ISM Manufacturing Index rose to 55.7 in July, its strongest reading since early 2022. Fifteen of the eighteen industries surveyed reported growth. The survey's forward-looking components also remained strong, with New Orders rising to 56.7 and Production increasing to 58.5. In addition, order backlogs climbed to 55.5, suggesting continued manufacturing expansion in the months ahead.
Services Sector Continues to Expand
The larger U.S. services sector also remained healthy in July.
The ISM Non-Manufacturing Index increased to 54.1, with 13 of the 18 industries surveyed reporting growth. Forward-looking indicators remained positive as well, with New Orders rising to 57.2 and Business Activity reaching 59.1. These readings point to continued momentum across much of the services economy.
Employment Trends and Labor Market Conditions
The employment recovery experienced a setback in July. U.S. nonfarm payrolls declined by 23,000 jobs, while payroll gains for May and June were revised lower by a combined 103,000 jobs.
As a result of both the July decline and prior revisions, average monthly payroll growth in 2026 has slowed to 56,000 jobs. While this remains above the average monthly gains recorded in 2025 and over the past 12 months, it marks a notable decrease from the 92,000 average reported through June before the revisions.
Government employment declined by 53,000 jobs, driven largely by a reduction of 50,000 local education positions. Private sector employers, however, added 30,000 jobs during the month.
Unemployment, Wages, and Inflation Pressures
The Household Survey, which is used to calculate the unemployment rate, showed a decline of 87,000 employed individuals in July. However, because the labor force decreased by an even larger 264,000 people, the unemployment rate fell to 4.1% from 4.3% in June.
Average hourly earnings increased just 0.1% during July and were 3.2% higher than a year earlier. The modest pace of wage growth may help ease concerns at the Federal Reserve that recent energy-related inflation pressures could lead to broader wage-driven inflation.
Labor Market Demand Remains Healthy
Despite softer payroll growth, broader labor market indicators remain relatively stable.
Job openings held steady at 7.4 million in June, representing approximately one available opening for every unemployed worker. Hiring increased slightly to nearly 5.3 million, led by healthcare and manufacturing sectors, while total separations remained unchanged at 5.4 million.
Of those separations, 3.2 million were voluntary quits and 1.8 million were layoffs. Workers who voluntarily changed jobs experienced average pay increases of 7.0% compared with June 2025.
Consumer Spending Remains Resilient
Consumer spending, which accounts for roughly 70% of U.S. economic activity, continues to support growth despite relatively weak consumer sentiment surveys.
According to Johnson Redbook's weekly same-store sales data, retail sales increased 8.3% from a year earlier. Sales growth in 2026 has also surpassed the average weekly growth rate recorded during 2025. These results are consistent with monthly Retail Sales and Personal Spending data.
Spending growth has remained fairly broad-based across income groups. During the three months ending in July, spending among lower-income households increased at a 5.4% annualized rate, while spending among higher-income households rose 4.9%.
Federal Reserve Focus Shifts Toward Inflation
With economic growth continuing and labor market conditions generally stable, attention remains focused on inflation and the Federal Reserve's 2.0% inflation objective.
July inflation data reduced some pressure for near-term monetary tightening. The Consumer Price Index (CPI) rose 0.1% during the month and was up 3.4% from a year earlier. Core CPI, which excludes food and energy prices, increased 0.2% in July and 2.5% year over year. Producer Price Index (PPI) data showed no change during the month.
Productivity Supports Economic Growth
Productivity gains continue to help moderate inflation pressures.
U.S. productivity increased at a 1.4% annualized rate during the second quarter and was 2.2% higher than a year earlier. While long-term productivity growth has averaged approximately 1.8% annually over the past 50 years, recent technological advances appear to be contributing to stronger productivity performance.
Higher productivity helps contain unit labor costs. Unit labor costs rose at a 1.3% annualized rate in the second quarter and were up 1.4% over the previous 12 months. Meanwhile, the Employment Cost Index increased 3.3% year over year, roughly in line with overall inflation.
Credit Conditions and Financial Stability
Recent economic data has eased some concerns about a potential recession.
Credit conditions remain generally supportive of economic growth. The Federal Reserve's Senior Loan Officer Opinion Survey (SLOOS) indicated that lending standards remained relatively stable over the past three months and that credit availability continued to be accessible for most borrowers.
While there was some modest tightening of standards for credit card and auto loans, lending conditions remain near historical norms. Corporate bond spreads, both investment grade and high-yield, also remain near historically low levels, suggesting limited signs of broader financial system stress.
Key Risks to the Outlook
Despite encouraging economic data, several risks remain.
Further geopolitical disruptions or supply-side shocks could place upward pressure on energy prices and inflation, potentially influencing future monetary policy decisions. The yield on the 2-year Treasury note currently exceeds the federal funds rate by roughly 57 basis points, suggesting the bond market anticipates some additional policy tightening over the next 12 to 18 months.
Additionally, foreign exchange market developments and international central bank actions could affect global capital flows and interest rates. At the same time, strong demand from individual global investors for U.S. Treasury securities and equities may help offset some of these pressures.
Economic Growth Remains Positive
Investor enthusiasm for AI-related companies remains strong, but the broader market's performance continues to be supported by economic resilience.
Real GDP grew at a 1.5% annualized rate during the second quarter, down from 2.1% in the first quarter. While increased imports weighed on headline growth, underlying economic activity remained healthy. Imports of computer chips and other technology products increased significantly, widening the trade deficit and reducing reported GDP growth under standard GDP accounting methods.
However, the key drivers of domestic growth remained strong. Consumer spending increased at a 3.2% annualized rate, up from 0.5% in the first quarter, while business investment rose at an 8.4% annualized pace.
Core Real GDP, which excludes trade, government spending, and inventories to provide a clearer view of underlying private-sector demand, grew at a 3.9% annualized rate in the second quarter, its strongest quarterly performance since early 2023.
While financial markets often become more cautious when indexes approach record highs, current economic data continues to suggest a resilient economy capable of navigating near-term challenges.
