The Overlooked Market Catalysts Fueling the Next Phase of the Bull Market

The current bull market, now in its third year, has defied conventional wisdom by thriving under a backdrop of high interest rates and a contractionary monetary policy. Yet, beneath the surface, a quiet but powerful force is building momentum: five underappreciated market drivers identified by Jim C. Paulsen, a seasoned strategist with decades of Wall Street experience. These drivers—Fed Funds Rate, 10-Year Treasury Yield, CPI Inflation, M2 Money Supply, and U.S. Consumer Confidence—have historically amplified equity returns when aligned in a favorable direction. As we approach the midpoint of 2025, their potential to catalyze the next phase of the bull market is becoming increasingly evident.

The Fed Funds Rate: A Looming Policy Shift

The Federal Reserve's monetary policy has long been a linchpin for equity markets. Paulsen's analysis reveals that the S&P 500 has historically gained 10.5 percentage points more annually when the Fed is cutting rates compared to when it is raising them. This is not merely a statistical anomaly; it reflects the broader economic effects of rate cuts—stimulating growth, weakening the dollar, and lowering borrowing costs.

Today, the Fed's funds rate remains elevated, but signs of a policy pivot are emerging. With inflation stabilizing at 2.3% and economic growth moderating, the stage is set for a shift. Investors should monitor the Fed's balance sheet reductions and forward guidance for clues. A sustained rate-cutting cycle could unlock a surge in money supply growth and consumer spending, creating a tailwind for equities.

The 10-Year Treasury Yield: A Dormant Tailwind

The 10-Year Treasury Yield has remained stubbornly range-bound since the bull market began in October 2022, fluctuating between 3.5% and 4.75%. Historically, declining long-term bond yields have been a precursor to strong equity returns, as they signal accommodative monetary conditions and reduced discount rates for future cash flows.

Paulsen argues that a downward trend in the 10-Year yield—a scenario increasingly plausible as the Fed pivots—could act as a catalyst for the S&P 500. A weaker dollar and lower bond yields would not only boost corporate earnings but also make U.S. equities more attractive to foreign investors.

CPI Inflation: A Stabilizing Force

Inflation, once a drag on market sentiment, has become a rare positive. After peaking at 7.75% in 2022, it has stabilized at 2.3%, aligning with the Fed's 2% target. While this may seem modest, it represents a critical shift: lower inflation reduces the cost of capital and supports consumer spending.

Paulsen anticipates that inflation will remain anchored, avoiding the sharp spikes that could derail the bull market. This stability, combined with a potential easing of monetary policy, could create a virtuous cycle of growth and equity gains.

M2 Money Supply: The Untapped Engine

The M2 money supply, a key driver of liquidity, has grown at a glacial 0.8% annualized rate since 2022, while the real money supply has contracted. This is a stark contrast to historical bull markets, where robust money supply growth has averaged 12.7% annually.

Paulsen highlights that a surge in M2 growth—triggered by Fed rate cuts and balance sheet expansion—could unleash a wave of liquidity. This would not only boost asset prices but also reduce the cost of debt for corporations and consumers alike.

U.S. Consumer Confidence: A Rebound on the Horizon

Consumer confidence, currently near record lows, is a critical barometer for the equity market. Paulsen notes that when confidence rises, the S&P 500 gains 15.8% annually on average. With wage growth stabilizing and mortgage rates easing, a rebound is on the horizon.

Investors should position for this shift by overweighting sectors sensitive to consumer spending, such as retail, travel, and technology. A stronger consumer will drive earnings growth, particularly in large-cap growth stocks.

Positioning for the Next Phase

The interplay of these five drivers suggests that the bull market is far from exhausted. To capitalize on their potential, investors should:
1. Stay invested in equities, particularly large-cap growth and technology stocks, which have historically outperformed during policy pivots.
2. Hedge against dollar volatility by allocating to non-U.S. equities and commodities, which benefit from a weaker dollar.
3. Monitor the Fed's balance sheet and forward guidance for early signals of a rate-cutting cycle.
4. Rebalance portfolios to favor sectors poised to benefit from lower borrowing costs and rising consumer confidence.

The next phase of the bull market will likely be driven not by speculative fervor but by the reactivation of these underappreciated catalysts. As Paulsen's analysis underscores, the key to navigating this phase lies in patience, discipline, and a strategic focus on the macroeconomic forces shaping the market.

In a world where market narratives often prioritize short-term volatility, the enduring power of these five drivers offers a roadmap for long-term success. By aligning with their trajectory, investors can position themselves to ride the next wave of the bull market with confidence.