Wall Street kicks off a new month and quarter tomorrow after a surprisingly strong series of gains in recent weeks, but with conflicting signals about the economy from the stock and bond markets.
The US stock indexes ended Friday with a robust performance for the week, last month and the third quarter, confounding many analysts looking for a more defensive posture in light of slowing economic conditions.
In the week to Friday, the Dow Jones Industrial Average climbed 1.5 percent to 11,679.07 after the blue-chip index flirted with its all-time highs hit in January 2000.
The Dow was up 2.6 percent for the traditionally weak month of September and 4.7 percent for the quarter, the best third-quarter performance since 1995.
The broad-market Standard and Poor's 500 advanced 1.6 percent on the week to 1,335.85. It was up 2.6 percent for the month and 5.2 percent for the quarter.
The NASDAQ composite increased 1.8 percent for the week to 2,258.43. The tech-heavy index climbed 3.4 percent for the month and nearly four percent for the quarter.
"The stock market has continued its impressive rally," said Dick Green at Briefing.com, adding that the turning point was a signal from Federal Reserve chairman Ben Bernanke in July that the cycle of interest-rate hikes was coming to an end. "This improved rate outlook is coupled with a continued good outlook on the other basic fundamental factor: Earnings. Economic growth is clearly slowing, but the earnings parade keeps going."
However, analysts say financial markets are sending mixed signals: The stock market sees a positive picture by lifting the Dow to near-record territory while the bond market has been flashing signals of a possible recession.
Robert Brusca at FAO Economics said the inversion of the yield curve -- with rates for short-term bonds topping those for longer-term maturities -- "has given off reliable signals for recession and more reliable signals for economic slowing."
"Stocks and bonds appear to be looking at two very different economies these days," said Douglas Porter, deputy chief economist at BMO Nesbitt Burns.
"Bonds are priced for a significant US economic slowdown, but stocks just aren't seeing it that way," he said.
But Porter noted that "one possible explanation for these seemingly divergent views is that the common factor is a downgrading of the inflation outlook in recent weeks, a potential plus for both markets."
The "disconnect" between the two views "would suggest that financial markets are not assuming the worst for the US economy, and are instead priced for a more benign moderation in growth and, more importantly, cooling inflation pressures. The primary risk to this soft landing scenario would be a sudden snap-back in energy prices."
In the coming week, investors turn their attention to economic reports on construction spending, manufacturing and later on monthly payrolls. The market is also bracing for the waver of quarterly earnings reports later in the month.
"We will see the market switch its focus to third quarter earnings reports and the outlook for the fourth quarter and 2007," said Fred Dickson at DA Davidson.