Trump’s war could crack sharemarkets
Jeremy Warner
It can’t be repeated often enough, but the stock market is not the economy. Still, the current disconnect between Wall Street and Main Street is believable.
Judging by the performance of the S&P 500, you would expect the U.S. and broader world economies to boom. It is true that they are not yet in recession, and most observers do not expect them to be in the near future.
In fact, by some measures the US economy is still soaring. Latest GDP data shows annual growth of 2 percent, fueled by rising data center capital spending. The job market also appears surprisingly resilient.
But beneath the surface, all is not as it should be. The closely watched University of Michigan’s U.S. Consumer Sentiment Index fell to a record low of 44.8 in May 2026, marking the third consecutive monthly decline driven by much higher gasoline prices.
It’s a similar, if not quite dramatic, story from The Conference Board, which found that consumer confidence was nearly as bad as it was at the height of the pandemic six years ago.
Alas, Kevin Warsh was just sworn in as governor of the Federal Reserve. Donald Trump is expected to preside over a series of rate cuts ahead of November’s midterm congressional elections, but he faces an economy where inflation is rising strongly and growth is sustained only by the cotton candy of a boom in AI spending.
Warsh is a big believer in the power of AI to deliver a transformational leap in productivity and thus a whole new era of strong, non-inflationary growth.
Maybe he’s right, but even if he is right, he may still be some way off. Meanwhile, AI’s spending spree is significantly inflationary in itself.
Many of the other immediate pressures are also highly inflationary, thanks largely to Trump’s war in the Gulf. So he can only really disappoint his sponsor in the White House. Markets expect the Fed to raise interest rates in the coming months, not lower them as Trump wants.
If peace talks bear fruit in the next week or two and the Strait of Hormuz reopens, it may be possible for Warsh to overcome the current rise in inflation, but even then it will take months for supplies to return to normal levels.
Oil prices, still relatively low in the face of current disruptions, appear to many observers as disconnected from reality as the stock market.
Three weeks ago, I listed six reasons why the U.S. stock market’s rise could continue. Much of this remains valid, but it was based at least in part on the idea that the war with Iran was essentially over and that a permanent solution was only a matter of time.
Unfortunately, the cat-and-mouse game of international diplomacy has continued apace since then, with the blockade still in effect. Last weekend was a classic of its kind; One moment we were said to be on the verge of a deal, and the next we were not, after it was stated that the terms actually meant Trump surrendering in all but name.
No matter how keen Trump is to see Gulf exports restart, he cannot be seen as losing out politically, and therein lies the danger of a paralyzing “Mexico standoff.” The worst outcome in Trump’s mind is the perception that he gained nothing from this costly escape.
In any case, it is still impossible to know how things will turn out. Markets may be misjudging matters by assuming happy endings.
In the meantime, we have a number of classic, best-in-market signals. The most obvious is the blockbuster listing of three US tech hopefuls (SpaceX, OpenAI and Anthropic).
They are all burning capital like there is no tomorrow. They all need new capital to sustain their rapid pace of investment, and many of their original investors are seeking at least a partial exit, exceeding even their own inflated expectations for the value of these companies.
Given current valuations, there’s no doubt other AI hopefuls will soon join the bandwagon. These defy all conventional standards and are virtually unprecedented.
The worst outcome in Trump’s mind is the perception that he gained nothing from this costly escape.
To the extent that past examples exist, they date largely back to the dotcom craze at the turn of the century. This didn’t end well.
Many of the same characteristics exhibited then are evident in the current balloon. Fearful of missing out on the valuation frenzy, companies are collectively rebranding themselves as pioneers of new technologies, no matter how fanciful the claim.
As Robert Buckland, former global equity strategist at Citigroup, observed, the planned infusion of new capital into the market follows a long period of “equity loss” in which the number of companies listed on the stock market rapidly declined due to takeovers, mergers, bankruptcies and delistings.
This process is one of the reasons why the stock market has performed so strongly since the financial crisis. There is a shrinking pool of supply to meet the growing demand for stock market investing.
The upcoming trio of blockbuster Initial Public Offerings (IPOs) is starting to reverse this trend. There will be no shortage of equity capital in the coming months and years. Government bond market issuance by debt-ridden governments threatens to become equally abundant, putting further pressure on asset prices.
Various other metrics also flash red for danger. The first is that market capitalization is concentrated in a relatively small number of mega stocks. Just seven of these account for about 35 percent of the S&P 500’s total value; This (sorry for using this word over and over again) is again an unprecedented situation. The planned IPO post will add further weight to this cluster of tech stocks.
Other notable oddities include that stocks now account for almost half of total financial asset holdings in the US and, more broadly, a third of net worth; both are at record levels. The total value of U.S. stock markets relative to GDP (commonly known as the Buffett Indicator) is approximately 220 percent. Historically, approximately 100 percent is considered normal.
If stock markets crash, the knock-on consequences on consumption through negative wealth effects are likely to be dramatic.
This is a cup game that predicts when bull markets will end. Stock prices have so far haphazardly brushed aside almost every shock that has come their way, from epidemics to war to rising protectionism, and may continue to do so for a long time.
But as Herbert Stein, President Richard Nixon’s economic advisor, observed: “If something can’t go on forever, it will stop.” It’s hard to know when it will happen, though.
