As economists expressed their concerns in August regarding President Trump’s increasing pressure on the Federal Reserve, the markets conveyed a contrasting sentiment: Let the good times roll.
A Friday selloff in shares linked to artificial intelligence before traders departed for the Labor Day weekend didn’t hinder the monthly rise of stocks. Achieving five out of its 20 records this year in August, the S&P 500 climbed 1.9% for the month, while the tech-focused Nasdaq composite rose by 1.6%. The Dow Jones Industrial Average increased by 3.2%.
All of these indices were surpassed by the Russell 2000, where small- and midsize companies, which have suffered the most from rising interest rates, suddenly appear more attractive to Wall Street.
Deteriorating economic data and the currently limited price effects from tariffs have instilled greater confidence in investors that the Fed will lower rates at its upcoming meeting next month. Concurrently, Trump’s initiative to fill the central bank with officials who support lower rates—highlighted this week by an attempt to dismiss Fed governor Lisa Cook—has contributed to the optimism that further rate cuts may be forthcoming.
Economists caution that a central bank more influenced by the White House is at a greater risk of excessively lowering rates, which could eventually lead to increased inflation. If August serves as any indication, the stock market perceives that risk as a concern for another day.
Robert Barbera, the director of the Johns Hopkins University Center for Financial Economics, noted that the recent tranquility among investors regarding Fed independence suggests a reversal of the saying popularized by former Fed Chair William McChesney Martin Jr. The Fed's role is to remove the punch bowl just as the festivities are reaching their peak.
Barbera humorously remarked that "Trump aims to eliminate the chaperone" who is tasked with maintaining order at the party by raising rates when necessary. "Surprise, surprise, the celebration is becoming a bit more boisterous," he commented.
In the Treasury markets, a sort of Trump effect has started to emerge in recent weeks. Investors anticipating rate cuts have been purchasing 2-year Treasurys, which has led to a decrease in the yield on those securities. Conversely, those who expect rates to rise over time have been selling 30-year Treasurys, resulting in an increase in the yield there.
The gap between the yields of 2-year and 30-year bonds—a crucial element of the yield curve—remained close to its widest point since early 2022, as reported by Dow Jones Market Data. Nevertheless, yields on long-term government debt are securely trading below 5%.
"That tends to be a level that disrupts the equity market," stated Lawrence Gillum, chief fixed-income strategist at LPL Financial.
On Friday, the University of Michigan's consumer-sentiment index for August came in slightly under expectations. The Federal Reserve’s favored inflation gauge for July did not move any closer to its 2% target.
The decline in the stock market was instead driven by a consistent source of strength: companies that provide chips, servers, and other tools for the AI surge. The Nasdaq led the downturn, falling by 1.1%, while the S&P 500 decreased by 0.6%. The Dow Jones Industrial Average dropped 0.2%, equating to a loss of 92 points.
A 3.4% decline made Nvidia one of the largest losers in the blue-chip index, intensifying a retreat since the company’s earnings report raised concerns about a slowdown in AI demand growth. Dell Technologies saw a drop of about 8.9% after issuing a profit forecast that was worse than anticipated, indicating weak margins on server sales. Marvell Technology shares plummeted 19% following a report that revealed data-center revenue fell short of expectations.
