Intense battle between long and short positions in US stocks, hedge fund tycoon Kass joins the bearish camp

According to the Smart Finance app, the US stock market has been hot in the past two years, with the S&P 500 index soaring 49%, hitting multiple historical highs.

Now, bulls and bears are debating: will the upward trend continue, or will there be a significant pullback?

Bulls believe that the Federal Reserve may cut interest rates twice this year to stimulate the economy and boost corporate profits.

They argue that slowing inflation will allow the Fed to take action. In the 12 months ending in May, consumer prices excluding food and energy rose by 3.4%, the lowest increase in three years.

Bulls also point out that corporate earnings have started to rise. Data from FactSet shows that earnings per share of S&P 500 index constituents grew by 5.9% year-on-year in the first quarter.

Analysts expect earnings growth of 9% for the current quarter. If this forecast comes true, it will be the largest increase since the first quarter of 2022.

However, not everyone shares this optimistic outlook.

Bears argue that corporate earnings may be significantly overestimated. They believe that market valuations are too high.

FactSet data shows that as of June 14th, the forward price-to-earnings ratio of the S&P 500 index is 21 times, well above the 5-year average of 19.2 times and the 10-year average of 17.8 times.

Bears also expect the Fed to maintain high interest rates for a longer period. According to the median forecast of Fed officials, interest rates will only be cut once this year. High interest rates are detrimental to the economy, bad economic conditions are unfavorable for corporate profits, and poor corporate profits are also detrimental to the stock market.

Bears believe that inflation remains tricky. In the 12 months ending in April, the US Personal Consumption Expenditures (PCE) Price Index was 2.7%, higher than 2.5% in January and above the Fed's 2% target. This index is a favored inflation gauge by the Fed.

Hedge fund guru joins the bear camp

Renowned US hedge fund manager Doug Kass has issued a warning about the US stock market.

Here are Kass's views:

First, the stock market is top-heavy, with five large tech companies distorting returns.

He refers to internet search giant Alphabet (GOOGL.US), retail and tech giant Amazon (AMZN.US), social media giant Meta Platforms (META.US), software giant Microsoft (MSFT.US), and semiconductor giant NVIDIA (NVDA.US).

Kass said, "NVIDIA contributed 35% to the S&P index's performance in 2024, while the other four companies contributed 26% of the annual return." Since the 1960s, these five stocks have never contributed such a large return to the market.

Second, corporate profit performance also depends on large tech stocks.

In the first quarter, excluding the seven major tech stocks, corporate profits fell by 2%. In addition, Kass stated that "profit expectations are unrealistic," far above historical average levels Thirdly, Kass quoted top economist David Rosenberg as saying that valuation is a problem. Rosenberg pointed out that since last October, profit forecasts for 2025 have been raised by 2.6%.

"Since then, how has the S&P 500 Index performed? It has risen by 26%. The increase in stock prices is 10 times the profit expectations," Rosenberg said. "This has always been, and still is, a market driven by multiple factors, definitely not a profit-driven market."

Fourthly, Kass stated, "Stocks are rarely as overvalued relative to interest rates as they are now."

"The dividend yield of the S&P index is only 1.32%, while the dividend yield of 6-month US Treasury bonds is 5.37%. The stock risk premium is at its lowest level in nearly 20 years."