GM. This is Milk Road Macro PRO, your macro GPS, rerouting you through two-speed markets and dispersion potholes without blowing a tire.
This is where we take a deep dive into the most important factors across the global economy and risk asset markets.
We’ll explore what’s happening right now and what might happen next.
This is a confusing and challenging market environment.
There’s one word to describe it - and that is dispersion.
It’s a tale of two markets.
But what can we learn from what is currently happening?
In this edition, we will:
- Analyze the “two-speed” market environment and what it means.
- Take a look at what is going on in the trucking world (this is a big economic signal).
- Work out how we should be viewing the dollar - this could be very important.
- Consider where we are in the business cycle and where things might go next.
- Take a deep dive into what’s going on with the U.S. economy.
- Look at how investors are currently positioned and what this means.
This is a birds-eye view of the most important factors driving markets.
As always, we have a lot of charts to get through (60+).
So, let’s get going…
Report snapshot
Before you dive in, here’s a top-level summary of what’s inside:
Macro regime: We are likely in a mid-cycle reacceleration and business cycle expansion, with growth accelerating and inflation cooling (Goldilocks conditions).
Market structure: Single-stock dispersion is near 30-year extremes (97-99th percentile). The S&P 500 is flat, but underneath, capital is rotating aggressively.
Leadership: Cyclicals (industrials, materials, transports, small caps) and semiconductors are outperforming - consistent with a strengthening industrial cycle.
Lagging: Software, Mag 7, and crypto are under pressure due to AI disruption fears, collapsing free cash flow from rising CapEx, and potentially weak liquidity tailwinds.
Economic confirmation: Trucking volumes, heavy truck sales, manufacturing gauges, internal market rotation, and global industrial indicators all confirm a genuine cyclical upswing.
U.S. labor market: Improving beneath the surface. No signs of recession. Though stronger labor data could reduce Fed easing expectations.
Positioning: Flow data shows skepticism, not euphoria. Hedge funds are defensive. Institutional outflows are high. This is not a sentiment backdrop typical of major market tops.
Primary risk: The U.S. dollar is showing technical signs of a potential reversal higher. Positioning is heavily short. A stronger dollar would tighten liquidity and pressure risk assets.
Time horizon: Based on prior cycles, the business cycle peak is likely 6-18 months away (late 2026 to late 2027), barring an external shock.
Current lean: Bullish overall, with a relative overweight toward cyclicals and commodities (particularly industrial metals). More cautious on software, Mag 7, and crypto until strength re-emerges. Dollar risk must be monitored closely.
Alright, now let’s get to it…
The tale of two markets
The S&P 500 continues to just chop sideways, as it has done for the past four months.
But still, a lot is happening under the hood.
We continue to see impressive breadth across the U.S. equity market, typically a sign of a healthy market.
Below, you can see my “breadth index,” with equal weighting across 8 important risk-sensitive sectors*.
(*Semiconductors, small-caps, transports, biotech, homebuilders, banks, retail, steel.)
It’s currently pushing against its upper bounds, indicating very strong participation across all 8 sectors.
You will typically see a “breadth breakdown” occur before a major risk asset top - and that’s not happening right now.
But despite the S&P 500 being essentially flat, we are seeing extreme and historic levels of dispersion within the equity market.
This is a challenging and confusing market environment.
Since the turn of the year, we’ve seen a big bucket of glorious winners and also a big bucket of spectacular losers (the winners bucket is bigger than the losers bucket, but the losers bucket mostly has the “bigger stocks” in it).
According to Citadel:
“Single-stock dispersion is at extreme levels. Over the past 30 days, the S&P 500 has been flat, while the average stock in the index has moved 10% in absolute terms, placing the dispersion in the 97th percentile over the past three decades. Earlier this month, this spread surged to 10.8% – a 99th percentile event.”
Within this extreme dispersion, there’s a strong “AI disruption" flavor.
In recent weeks, we’ve seen waves of panic spreading across various sectors as new AI tools with the potential to disrupt a specific sector have been launched.
We’ve seen “rolling panics” in software, private credit, media, wealth managers and brokers, insurance, legal services, tax services, freight, and others (it’s a long list).
Investors are rushing to sell off entire sectors in a “shoot first, ask questions later” manner.
This is getting a bit silly in my opinion, and I think markets and investors will “grow out” of this soon.
So, let’s take a deeper look at what’s working, what isn’t working, and what we can learn from it all…
1. The winners
As I have been outlining for some time in reports and newsletters, we are currently in the middle of a cyclical reacceleration and business cycle expansion.
So what parts of the stock market perform well in this environment?
Cyclical stocks.
We see:
- Industrials (stuff makers - XLI) are ripping higher (+18% in three months).
- Materials (chemicals, metals and mining, packaging, and construction materials - XLB) are ripping higher (+25% in three months).
- Transports (stuff movers - DJT) are ripping higher (+24% in three months).
- And the Russell 2000 (small caps or “the real economy” - IWM) is performing well (+15% in three months) and significantly outperforming large-caps.
You would not expect these sectors to be performing this well if we were in, or very close to, a broad, prolonged “risk-off” bear market.
These sectors are key indicators of economic health.
This kind of broad-based cyclical strength is a landscape you’d expect to see if U.S./global growth was strong and future growth expectations were strengthening.
Similarly, we are still in a raging global equity bull market.
Many international stock markets have had a monster performance over the past several months (I covered this in a newsletter earlier this week).
My Global Stock Market Index - including the 40 largest international equity markets - is at a level equivalent to 2021 or 2017 (raging global bull markets).
This is not a 2022 or 2018 environment (global growth outlook deteriorating - broad global risk asset bear market).
The global cyclical backdrop is currently incredibly strong.
However, there is one big caveat to this rosy cyclical outlook.
Large-cap financials (XLF - another important “bellwether” cyclical U.S. sector) are noticeably underperforming, particularly in recent weeks.
This is not a great sign - you would ideally like to see at least reasonable performance from financials to be certain of a “healthy” environment.
This isn’t massively worrying yet - it could just be short-term rotation, and also partially “AI disruption” fueled - but it’s something to watch carefully.
Continued weakness in the financial sector could be a red flag that something sinister may be brewing.
You generally don’t get sustainable bull markets in America without financials.
Financials tend to weaken early when credit conditions start to shift beneath the surface.
2. The losers
On the other side of the coin, there are some big losers and laggards.
The tech sector as a whole (XLK) has been conspicuous in its underperformance, after more than a decade of being the darling of the stock market.
And particularly “high beta” tech (ARKK) has been lagging behind (more volatile, more speculative tech).
But there are some specific areas of tech that have been hit particularly hard.
Software (IGV) has been a big loser - it’s now in a severe bear market (-30%).
This is a problem for the U.S. stock market as a whole at the index level, because software makes up such a large chunk of the S&P 500 (19%) and Nasdaq (26%) - so it’s weighing heavily on the major indices.
This software smash has occurred due to a somewhat panic-like explosion of fear surrounding disruption from AI.
Jeffrey Favuzza, who works on the equity trading desk at Jefferies, wrote:
“We call it the ‘SaaSpocalypse’ - an apocalypse for software-as-a-service stocks. Trading is very much a ‘get me out’ style of selling. People are just selling everything and don’t care about the price.
“The draconian view is that software will be the next print media or department stores, in terms of their prospects.”
The pressure is coming from the forward debate.
Earnings in the software sector continue to be exceptional (as they have been for many, many years), and forward earnings expectations continue to push strongly higher.
But investors are increasingly focused on the durability of profits, rather than near-term earnings strength.
The actual real-world forward impact of AI on the revenues and margins of software companies (particularly high-quality, entrenched firms) is a hotly debated topic, and I won’t get into it here.
However, it is not the case that rising forward earnings growth estimates within a sector under heavy disruption pressure are necessarily a good thing for stock prices in that sector.
Between 2002 and 2005, newspaper forward earnings estimates continued to rise, but stocks were crushed, and then forward earnings estimates “caught down” to equity prices years later.
Nevertheless, software has seen some relief this week as AI firm Anthropic held a livestream event, which was more geared to enterprise adoption than disruption.
In a note, Deutsche Bank analysts wrote:
“After watching Anthropic's Enterprise Agents briefing event, we have even greater conviction that model providers are unlikely to displace software incumbents and are instead positioning themselves and their agents to be an orchestration layer on top of existing and incumbent systems. It remains very difficult to replicate or displace much of the knowledge, metadata, and workflows incumbent systems have amassed.”
Elsewhere, the Magnificent 7 (Amazon, Meta, Google, Nvidia, Tesla, Microsoft, Apple) has also been a surprising underperformer.
The Mag 7, as a group, is flat over the last three months (and now known as the Bag 7).
These have been the stocks to own for many years - and it’s almost been a “career risk” for money managers to not own them.
However, every big-spending hyperscaler has been hammered - one by one - after reporting solid earnings, but significantly upping CapEx plans.
Hyperscalers are expected to splurge nearly $750B on CapEx this year, and more than $900B next year.
Up until recently, the market had viewed growing CapEx as a good thing for the companies involved.
But now, it’s being met with intense skepticism.
Big CapEx numbers mean drastically reduced free cash flow.
That’s across the board for most mega-cap tech, but particularly:
- Google’s free cash flow is projected to plummet from $73.3B in 2025 to $8.2B in 2026, according to analysts at Mizuho.
- Meta is also expected to see a roughly 90% drop in free cash flow in 2026, with some analysts predicting negative free cash flow through this year and 2027.
And cratering free cash flow means less (potentially zero) buybacks.
Buybacks have been a big driving force for mega-cap tech stocks in recent years, as the cash-printing Mag 7 behemoths gobbled up huge piles of their own stock - but now the money that would have been used for buybacks (directly boosting the stock price) is being used for CapEx (impact on stock price less certain).
As a result, markets have become far more sensitive to direct revenue growth as proof of AI monetization.
Big money managers are telling CEOs to slow CapEx, according to Bank of America’s Global Fund Manager Survey.
A record number of “serious money” investors think companies are overinvesting.
Eventually, this will matter - and remember, “shareholders/CIOs are the boss of CEOs”.
The current situation boils down to this chart.
Extremely elevated CapEx means burning a lot of cash today for a possible return in the future.
Currently, revenue directly stemming from AI spending is just not keeping up with the huge growth in spending.
This gap probably needs to be closed for mega-cap tech/hyperscaler stocks to outperform again.
AI needs to start actually generating direct revenue.
The problem that the hyperscalers have is that the cost of not building is higher than the cost of building.
If Google doesn't build AI infrastructure and Microsoft does, Google loses.
Competitive pressure forces spending regardless of short-term returns.
The hyperscalers are so cash-rich, and their underlying businesses are so strong that they can afford to “overspend” for years and years.
But this is detached from the stock price.
The market is loudly and clearly saying that now is the time for skyrocketing CapEx to show measurable direct results.
All-in-all, there are a number of sector-specific issues within tech.
But even within tech, the dispersion is crazy.
Semiconductors are up big (+31% in three months) - while software/Mag 7/high beta tech are lagging well behind.
Elsewhere, probably the biggest loser has been bitcoin/crypto.
All historical precedent (admittedly, not a huge amount of data) suggests that bitcoin should significantly outperform during a business cycle expansion and an environment where the stock market is broadening out, and cyclicals are outperforming.
But this is not currently the case - and, as I laid out in the previous report, this is concerning.
I’m not sure if it’s just the case that bitcoin is heavily tied specifically to U.S. tech (both are relatively “high beta” and both have an overlapping investor base).
This is a possible explanation.
Another explanation is the school of thought that bitcoin is simply a pure expression of “Federal Reserve money printing” and can only rise when Fed liquidity is rising.
I’m not entirely sure I agree with this line of thinking.
Nevertheless, we can look at the amount of liquidity the Fed is providing to markets by looking at “Net Fed Liquidity” - capturing all liquidity-altering aspects of the Fed.
There’s an obvious correlation here.
This white line will likely move very slowly upwards in the coming months as the Fed continues with small-scale “Reserve Management Purchases”.
But there’s no big acceleration of Fed liquidity on the horizon, barring some kind of crisis.
And, if anything, the chances of a big acceleration in Fed Liquidity are much lower now with Kevin Warsh likely to be the next Fed Chair (he’s a harsh critic of growing the Fed’s balance sheet).
So what does all of this mean?
The simplest one-liner for this current crazy dispersion is this:
Real physical things = good (green), things that only exist on screens = bad (red)
And the further an asset is from the physical world, the worse it is currently performing.
So, how will this deeply bifurcated situation resolve?
I don’t know.
It’s possible that the weakness in tech drags down the rest of the market.
It’s possible that the strength in cyclicals pulls up the digital laggards.
It’s possible that a bit of both happens, and they meet in the middle.
It’s possible that the dispersion just continues.
But what I am pretty confident of is that we are right in the middle of a cyclical reacceleration/business cycle expansion.
Historically, during these periods of time, cyclicals outperform.
Within the U.S. stock market, I continue to generally prefer traditional cyclical sectors over tech as a group for the medium-term, on a relative basis.
The economic environment is good for cyclicals, and they are relatively insulated from AI-related disruption.
Also, many cyclicals actually directly benefit from massive CapEx spending, because they are receiving the money to aid the AI build-out - but they don’t bear the spending risk.
Additionally, sectors directly linked to AI may come under more pressure as we move towards the midterms later this year, with odds of Democrat success rising.
Democrat victories may lead to issues and roadblocks for the AI build-out further down the line.
Trucking is the signal
Trucking is a very important leading indicator of economic activity.
In a cyclical reacceleration/business cycle expansion, you need to move stuff around.
And to move stuff around, you need trucks and freight.
You can’t fake truckload volumes.
And right now, the trucking industry is popping off.
This can be seen through the chart below, showing truckload rejection rates shooting higher in recent months.
High rejection rates reflect tightening capacity where carriers have the ability to turn down more loads.
Craig Fuller, of FreightWaves, believes the “Great Freight Recession” of recent years is over and there’s been a fundamental shift in the U.S. economy.
He said:
"The fact that this is happening in early February is remarkable, typically one of the slowest times of the year. We haven’t seen this kind of rally since 2020. CEO of a top-five mega truckload carrier just texted me: Something is happening in freight. It's very strong, and we're starting to increase rates."
In particular, flatbed rejection rates have soared to the highest level in years - flatbed hauling focuses on industrial cargo like steel and construction materials.
That generally means that industrial activity is strong - typically a mid-cycle dynamic - and this is good news for small-caps, mid-caps, and cyclical sectors.
Elsewhere, according to Bank of America, shippers’ view of freight rates over the next three months is moving higher and is now at a level equivalent to 2020/2021 and 2017 (raging bull markets).
There is an argument to be made that at least some of this recent spike in freight rejection rates is due to constrained supply, rather than rising demand - new immigration policies (fewer truck drivers) and some truck firms going out of business.
However, Bank of America’s Truckload Demand Indicator has jumped up to its highest level in years - indicating that demand is improving.
Also, we’ve just seen a big three-month positive swing in Heavy Truck Sales - with the only other comparable time period being the pandemic recovery in 2020.
So, there’s currently a big demand for new trucks as well.
If we look at the previous 14 occasions when Heavy Truck Sales jumped by 55,000 units or more over three months, the S&P 500 was higher over the following five to 12 months in all but two cases.
Those two cases were both in the 1970s, and this isn’t the 1970s (extreme stagflation).
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WHAT’S LEFT INSIDE? 👀
- Looking in-depth at the dollar - this could be an important signal and needs to be watched closely.
- Where are we in the business cycle, and where are we heading next?
- How’s the U.S. economy shaping up? What economic regime are we currently in?
- There have been big moves in investor positioning and flows. What can we learn from this?
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