A 2-month rally pushed the stock market to record highs — but watch for these risks in July

The U.S. stock market, led by the S&P 500 and Nasdaq Composite, recently achieved record closing highs, completing its quickest-ever recovery in 89 days from an 18.9% decline and defying the 'sell in May' adage with significant gains in May and June. Looking to July, key market drivers and risks include the potential passage of President Trump's new tax bill, which could have mixed short-term liquidity impacts, and the July 9 expiration of the 90-day tariff pause, which may reintroduce trade volatility. Furthermore, the mid-July earnings season will be critical for assessing corporate profit margins, particularly for highly valued large-cap tech stocks, given concerns about tariff absorption and market concentration risk.

Analysis

U.S. equity markets have demonstrated remarkable resilience, with the S&P 500 and Nasdaq Composite reaching new record highs in late June, defying geopolitical tensions and the “sell in May” adage. This rally was fueled by substantial gains, with the S&P 500 rising 6.2% in May and 4.4% in June, culminating in the index's fastest-ever recovery from a decline exceeding 15%—it took just 89 days to rebound from its 18.9% drop. Historical analysis cited by CFRA Research suggests a further advance of 6% to 10% is possible following such a rapid recovery, a trend supported by strong July seasonality. However, this positive technical and seasonal outlook is juxtaposed with three considerable macroeconomic risks in July. First, the expiration of the 90-day tariff pause on July 9 threatens to reintroduce trade-related volatility, with analysts from Wells Fargo expecting some tariffs to apply, pressuring corporate profits. Second, the upcoming earnings season is critical, as it will reveal whether corporations have absorbed tariff costs at the expense of profit margins—a significant concern given the market's concentration in highly-valued large-cap tech stocks. Third, potential passage of a new tax bill presents a mixed outcome; according to Morgan Stanley, its impact will be less meaningful than the 2017 cuts and could trigger a short-term, liquidity-negative event as the Treasury refills its accounts.

Key Decisions for Investors

• Investors should scrutinize upcoming Q3 earnings reports, particularly from the 'Magnificent Seven', for any evidence of tariff-related margin compression, as weakness in these key names could disproportionately affect the broader market.
• It is prudent to monitor trade policy rhetoric and actions closely leading up to the July 9 tariff pause expiration, as a return to protectionist measures could rapidly unwind recent market gains.
• Consider the tactical risk that even a successful passage of the new tax bill could create a short-term liquidity drain and market hiccup, presenting a potential entry point or a reason for near-term caution.
• While historical momentum is positive, the confluence of risks in July suggests a balanced approach may be warranted, potentially involving trimming exposure to stocks with extreme valuations or implementing hedging strategies.