CRIB SHEET: The New Year

The authors maintain a 60% probability for a “Roaring 2020s” outcome, forecasting productivity-led real GDP growth of 3.5% in 2026 and inflation easing to 2.0% as fiscal and monetary policy remain stimulative. They project S&P 500 EPS rising 15% to $310 in 2026 (then to $350 in 2027) with an S&P 500 target of 7,700 by year-end, and a 10-year Treasury yield averaging 4.50% (range 4.25%–4.75%). Key risks include runaway inflation from overly stimulative policy provoking bond-market reactance and weak productivity or a persistent “no-net-hiring” labor market that could undercut consumer spending. Economic-data signs — falling initial and continuing unemployment claims and potential payroll rebound — support the upbeat baseline but the authors still assign 20% odds each to a meltup/meltdown and to recession.

Analysis

Market structure: The Roaring-2020s base case (GDP +3.5%, 10y ~4.5%) favors technology-capex suppliers (semis, cloud infra), cyclicals (industrials, materials) and banks (net interest margins), while long-duration growth and bond-proxy sectors (utilities, long-term REITs) lose pricing power if real yields normalize. Strong boomer wealth supporting consumption implies resilient discretionary spending but a falling savings rate (toward zero) raises cyclicality and credit sensitivity through 2026–2029.

Risk assessment: Key tail risks are (1) inflation surprise (>3% core CPI for two consecutive months) that triggers Bond Vigilantes and a >100bp shock to 10y (S&P -15–25%); (2) aggressive Fed cuts (meltup) if data weakens; and (3) productivity disappointment that translates to earnings misses. Immediate (days–weeks) catalysts: monthly payrolls, CPI/PCE, and Treasury issuance; medium-term (3–12 months): fiscal packages and corporate capex guidance; long-term hinges on sustained productivity gains.

Trade implications: Tilt S&P beta toward XLK/semis and XLI, underweight TLT/XLU; favor financials (XLF) vs bond proxies as a pair trade. Use defined‑risk options to express upside (6–12m call spreads on NVDA/SPY sized 1–3% of portfolio) and small, staged tail hedges (deep OTM puts) that scale if 10y>5% or core CPI>3% for two months.

Contrarian angles: Consensus assumes productivity-driven earnings — if productivity stalls or savings go negative faster, consumption-driven EPS growth will falter and valuations will rerate. The market may underprice recession risk tied to household leverage; hedge thresholds: cut equity exposure by 50% if payrolls fall >200k MoM or corporate EPS guidance turns negative across >30% of S&P firms in a quarter.

Key Decisions for Investors

• Establish a 3.0% net portfolio long in a tech-capex basket within 4 weeks: NVDA 1.25%, ASML 0.75%, AMAT 1.00%. Target +25% in 12 months, hard stop -15% on each name, trim into strength >+20%.
• Rotate 4.0% from core aggregate bonds (sell AGG) into cyclicals/financials over 1–3 months: buy XLF 2.5% and XLI 1.5%. If 10-year Treasury yield breaks above 4.75% and sustains, reduce XLF by 50% and add short-duration paper (SHY) or bank-loan ETF (BKLN).
• Implement defined‑risk option plays: allocate 2.0% to a 6–12 month SPY 5% OTM call spread and 1.0% to a 3–6 month NVDA 10% OTM call spread to capture EPS upside. Size premiums as stated and roll if realized volatility <15% or IV crush occurs after earnings.
• Hold tail protection: buy 1.0% portfolio allocation to 9–12 month SPY 15% OTM puts now; increase hedge to 3.0% if either (a) core CPI >3.0% YoY for two consecutive months or (b) 10-year Treasury >5.0% sustained for 2 trading days. If payrolls drop >200k MoM, liquidate 50% of long equities within 5 trading days.