US Stocks Rally on Shutdown Optimism, AI Valuations in Focus

US Stocks Rally on Shutdown Optimism, AI Valuations in Focus

U.S. stocks surged on Monday, driven by growing optimism that a deal might be struck to end the longest government shutdown in U.S. history. Whether that optimism will translate into reality remains to be seen.

Key Takeaways:

• Stocks rally fueled by government shutdown resolution hopes.
• Tech stocks rebound after worst week since April tariff turmoil.
• Investors brace for a deluge of delayed economic data.
• AI stock valuations appear less frothy after recent sell-offs.
• Potential economic impact of recent layoffs concerns investors.

As federal government employees missed paychecks, flights were disrupted, and other shutdown impacts began to surface, the outlines of a compromise emerged. While not guaranteed, a resolution is anticipated later this week.

Wall Street already breathed a sigh of relief, with tech stocks staging a strong comeback after their worst week since the April tariff skirmishes. According to FactSet, the S&P 500's information technology and communication services sectors posted single-day gains of 2.7% and 2.5%, respectively, on Monday.

In comparison, the S&P 500 (SPX) rose 1.5%, and the Nasdaq Composite (IXIC) jumped 2.3%, its biggest single-day percentage gain since mid-May, according to Dow Jones Market Data. The Dow Jones Industrial Average (DJIA) advanced 0.8%.

"We just didn't know how long it would last -- or if it would have a material economic impact," said Sameer Samana, senior global market strategist at the Wells Fargo Investment Institute. "At the moment, there is (an economic) impact, but it's not derailing the positive market backdrop."

He noted that a re-opened government should mean less "fog" in the economic data and could pave the way for the Federal Reserve to deliver its third rate cut of the year in December.

Furthermore, Samana said that while the labor market has been cooling, recent signs suggest that after a pandemic-era "labor hoarding," companies feel it's time to "right-size" their staffing levels. "That's a positive for companies and profits," he said, so long as there isn't "massive layoffs."

Data Deluge: Boon or Bane?

Investors haven't seen the Labor Statistics Bureau's nonfarm payrolls report for two straight months, making data from private sources particularly significant.

Except for a few bumpy trading days, the crucial $30 trillion U.S. Treasury market has been fairly calm, with the 10-year Treasury yield currently at 4.12%, basically flat so far this month, according to Dow Jones Market Data.

"In the bond market, not a lot is changing," said Jack McIntyre, fixed-income portfolio manager at Brandywine Global. "The data will still be a mess," he said. "I'm not sure when we'll get the data -- or what the quality of it will be."

This leaves investors bracing for a deluge of delayed economic data, but with little in the way of concrete guidance about how to interpret it or how the markets will digest it.

"You have to be careful what you wish for," said Robert Pavlik, senior portfolio manager at Dakota Wealth Management. "My biggest concern is: Are we going to see some indications that these recent layoff announcements are actually more widespread?"

Investors had been hoping the "no hire, no fire" labor market of August would persist. Although job additions have slowed significantly, the latest unemployment rate of 4.3% is the highest since 2021.

AI Stocks Still Pricey?

While Monday's optimism about a government reopening didn't erase concerns about high valuations for tech stocks, the previous tech sell-off has made the hottest AI plays appear less expensive.

Dakota Wealth's Pavlik said that some of the "AI-related stocks have cooled off, opening up an on-ramp for more individual investors to get involved." That backdrop makes him optimistic about the usually well-performing year-end rally.

Quarterly earnings have mostly been good, and tax cuts and other potential stimulus from Republican tax and spending bills should be a tailwind by early 2026.

"One of the things that seems to be happening is the market is finally starting to accept the fact that big-tech stocks are amazing companies, but they're very, very expensive," said Scott Welch, chief investment officer at wealth management firm Certuity. He said this puts AI stocks more in a "show me the results" phase, as in when they can translate massive AI spending into profits.

"My advice to clients is: Let's stay diversified, and don't try to grab every last penny of profit," Welch said. But the problem is that about 10 tech stocks account for nearly 40% of the S&P 500's market cap. He said that if one of those gets hit hard by earnings or otherwise, it could drag down the whole equity portfolio. "If your portfolio is built right, you'll do fine."

Wells Fargo's Samana said he's optimistic about a year-end stock market rally unless the bond market throws some "tantrums" and pushes long-term yields higher again. "But don't lose sight of the forest for the trees," he concluded. "This is all in an uptrend."