\t\t\t\t\t\t\tThe wealth effect that\u2019s driving our K-shaped economy\u2026 have we slipped into a new economic model?\u2026 why earnings are more important than ever\u2026 how to invest in light of this delicate system<\/p>\n
VIEW IN BROWSER<\/a><\/p>\n What if the economy wasn\u2019t being lifted by paychecks anymore \u2013 but instead, by brokerage statements?<\/p>\n On Sunday, The Wall Street Journal ran a piece highlighting the \u201chaves\u201d versus \u201chave-nots\u201d split in our economy that co-Digest writer Luis Hernandez and I regularly spotlight.<\/p>\n The article noted that the \u201cwealth effect\u201d is behind so much of today\u2019s spending from Americans with assets.<\/p>\n From the WSJ:<\/p>\n Investors\u2019 rosy feelings about having a lot more money\u2014at least on paper\u2014are powering spending on restaurant meals, business-class airline tickets, home improvement and more, keeping the broader economy humming\u2026<\/p>\n The phenomenon of people spending more when assets they own go up in value is known as the \u201cwealth effect.\u201d<\/p>\n Meanwhile, in the lower spoke of the \u201cK\u201d of this K-shaped economy, Americans without assets face high retail prices and paychecks that aren\u2019t keeping up with inflation. The result is that sentiment has sunk to near its lowest reading on record, according to the latest University of Michigan survey.<\/p>\n Is the wealth effect changing the traditional relationship between the economy, the investment markets, and the labor force?<\/p>\n What if it\u2019s no longer the economy that\u2019s making people rich, but instead, \u201cfeeling rich\u201d is critical for a robust economy?<\/p>\n If there\u2019s anything to this idea, there are significant implications for this bull market, our social cohesion, and your portfolio.<\/p>\n Why the wealth effect is today\u2019s new growth engine<\/p>\n Historically, we\u2019ve understood the market as a general mirror of the economy.<\/p>\n When businesses hired more workers, paid better wages, and saw rising productivity, those fundamentals translated into stronger corporate earnings, which in turn pushed stocks higher.<\/p>\n In that world, a strong labor market was the foundation of everything.<\/p>\n But as we\u2019ve highlighted over the last few months, AI is breaking the link between employees and profits. We\u2019re entering a new era where a company can grow earnings without growing payroll.<\/p>\n Yesterday\u2019s model: Healthy job market \u2192 higher wages \u2192 more spending \u2192 stronger earnings \u2192 rising stock prices.<\/p>\n Today\u2019s \u201cwealth effect\u201d model: Rising stock prices \u2192 wealth effect spending \u2192 resilient GDP \u2192 \u201chealthy\u201d economy\u2026<\/p>\n From a \u201cyesterday\u2019s model\u201d perspective, today\u2019s job market isn\u2019t all that healthy. While we\u2019re not seeing massive layoffs yet, they\u2019re rising fast. At best, we have what Federal Reserve Chairman Jerome Powell calls a \u201clow hire, low fire\u201d market.<\/p>\n Meanwhile, if you do have a job, wages aren\u2019t keeping pace with inflation, and Americans\u2019 wallets are hurting.<\/p>\n Yesterday, a new Bank of America report found that 29% of lower-income households are living paycheck to paycheck. That\u2019s up from 28.6% last year and 27.1% in 2023. Bank of America blamed the increase on slowing wage growth.<\/p>\n Turning to the \u201cwealth effect\u201d model, evidence suggests that Upper-K consumers are feeling stronger than ever, exhibiting a greater influence on our economy than in recent decades.<\/p>\n Here\u2019s Oxford Economics, a global economic advisory firm, from last month:<\/p>\n Since the onset of the COVID-19 pandemic, significant gains in net wealth have driven almost a third of the increase in consumer spending.<\/p>\n Despite an unfavorable backdrop, consumer spending will grow at a decent pace this year, largely thanks to the stock market rally that started in April\u2026<\/p>\n Wealth effects have strengthened over the past 15 years, with stocks becoming a bigger driver of consumption than housing.<\/p>\n Mark Zandi, chief economist for Moody\u2019s Analytics, reports that the top 10% of wealthiest Americans accounted for 49% of consumer spending at the end of Q2.<\/p>\n Think about that: just one out of 10 Americans wields the same economic power as the other nine combined.<\/p>\n This K-shaped economy helps explain one of the puzzles of our time \u2013 why median Americans feel squeezed while the overall economic data looks healthy.<\/p>\n The first issue with this new model \u2013 a closed-system economy<\/p>\n If the economy increasingly runs on spending by asset owners, then Americans without meaningful assets become less integral to the growth story. And that creates a new risk \u2013exclusion.<\/p>\n To what extent are we slipping toward what you might call a \u201cclosed-system economy?\u201d One where the loop circulates among the Upper-K cohort \u2013 and largely bypasses half the country who don\u2019t own stocks or significant assets?<\/p>\n When prosperity bypasses giant swaths of the population, political and social consequences often follow. History tells us that if the situation becomes dire enough, we can expect rising disenfranchisement, frustration, and eventually, pushback.<\/p>\n The election of democratic socialist Zohran Mamdani to mayor in New York City last week (which we profiled in this Digest<\/a>) may be a tiny signal of that broader shift.<\/p>\n The next big problem with this new model \u2013 chicken or egg?<\/p>\n If spending is primarily dependent on asset wealth, and asset wealth depends on market performance, we\u2019ve entered what I\u2019ll call a Reflexive Economy \u2013 a system that feeds on its own success \u2013 maybe even if that success hasn\u2019t materialized\u2026or can slip away.<\/p>\n In my October 10th Digest, I highlighted an example of this \u201cbetting on the come\u201d \u2013 the partnership between Advanced Micro Devices (AMD<\/a>) and OpenAI (disclosure: I own AMD).<\/p>\n On the surface, it was a blockbuster: OpenAI committed to buying tens of billions of dollars\u2019 worth of AMD\u2019s AI-focused chips. AMD gets massive new revenue, OpenAI gets diversified computing power \u2013 win-win.<\/p>\n But as our macro investing expert Eric Fry of Fry\u2019s Investment Report<\/a> and his lead analyst Tom Yeung explained, the deal\u2019s structure raises eyebrows.<\/p>\n Instead of writing AMD a $60 billion IOU for the chips, OpenAI persuaded AMD to issue 160 million stock warrants \u2013 essentially options to buy AMD shares \u2013 for a penny each. Those warrants become valuable only if AMD\u2019s stock price rises to certain key levels.<\/p>\n So, notice the reflexivity:<\/p>\n OpenAI\u2019s ability to pay for AMD\u2019s chips depends, in part, on AMD\u2019s stock price rising enough to make those warrants valuable.<\/p>\n AMD\u2019s stock price rising depends, in part, on optimism about the OpenAI deal and the future revenues from OpenAI.<\/p>\n And what\u2019s the common ingredient for both AMD and OpenAI?<\/p>\n Confidence.<\/p>\n Confidence that OpenAI will pay\u2026 confidence that AMD\u2019s stock will rise.<\/p>\n In the same way that the wealth effect is based on confidence that unrealized wealth won\u2019t disappear (so let\u2019s keep spending!), this kind of circular deal is based on confidence that both parties will live up to their end of the bargain.<\/p>\n Neither is guaranteed.<\/p>\n And this means one thing\u2026<\/p>\n Today, tangible earnings are more important than ever<\/p>\n Earlier this week in his Innovation Investor<\/a> Daily Notes, our hypergrowth expert Luke Lango explained why nervous tech investors should be watching earnings, not pricy valuations:<\/p>\n If we look back at the Dot Com Boom\u2026we can see that rich valuations didn\u2019t pop the bubble.<\/p>\n The S&P 500 traded >20X forward earnings throughout essentially all of 1998, 1999, and 2000 \u2013 yet\u2026it wasn\u2019t until EPS estimates started to fall, in the second-half of 2000, that the Dot Com Boom turned into the Dot Com Bust\u2026<\/p>\n Big picture readthrough: If you\u2019re looking for a top, follow earnings, not valuations.<\/p>\n Luke\u2019s point is critical.<\/p>\n Today\u2019s lofty valuations reflect the \u201cwealth effect\u201d powering this Reflexive Economy. And earnings are the bridge connecting these inflated assets to real-world spending.<\/p>\n Now, yes, valuations are high. But today\u2019s earnings are real and strong \u2013 and that\u2019s keeping today\u2019s new wealth effect model at least partially grounded in reality. At a minimum, it means the inflation bubble doesn\u2019t have to pop.<\/p>\n But when earnings fall, watch out.<\/p>\n Here\u2019s how that loop looks:<\/p>\n Wall Street will have to reprice lower earnings into its PE ratios, causing stock prices to fall.<\/p>\n Wealthy Americans who have been propping up the economy due to the wealth effect will see lower portfolio values and spend less.<\/p>\n Reduced spending hits earnings again, and nails sentiment (the PE ratio multiple) even harder as some Upper-K Americans realize their \u201cwealth\u201d was only on paper.<\/p>\n Lower-income Americans can\u2019t come to the rescue \u2013 they\u2019ve been shut out of this closed system for a while, growing increasingly disillusioned.<\/p>\n Earnings and sentiment continue spiraling downward as the wealth effect goes in reverse.<\/p>\n Bottom line: Luke is right \u2013 valuations aren\u2019t the trigger we need to be watching. They can stretch. But when lower earnings result in kneecapped confidence, that\u2019s when the fragility of today\u2019s new model will become apparent.<\/p>\n The good news is\u2026<\/p>\n We\u2019re nearing the end of Q3 earnings season, and we\u2019ve seen strong earnings numbers. As importantly, forecasts remain solid.<\/p>\n Here\u2019s FactSet, the go-to earnings data analytics group used by the pros:<\/p>\n For Q4 2025, analysts are projecting earnings growth of 7.5% and revenue growth of 7.1%.<\/p>\n For Q1 2026, analysts are projecting earnings growth of 11.8% and revenue growth of 7.7%.<\/p>\n For Q2 2026, analysts are projecting earnings growth of 12.7% and revenue growth of 6.8%.<\/p>\n If these figures play out, the Wall Street party will continue. But recognize the reality\u2026<\/p>\n If Lower-K Americans play less of a role in today\u2019s economy\u2026 and if the wealth effect is playing an outsized role\u2026 then the moment earnings roll over, the feedback loop unwinds \u2013 painfully.<\/p>\n That\u2019s why investors today can\u2019t afford to treat this as theory. This feedback loop runs straight through your portfolio.<\/p>\n So, what\u2019s the action step?<\/p>\n We play smarter offense and defense.<\/p>\n For defense, let\u2019s return to Eric. He\u2019s urging investors to take profits on potentially overextended names, such as Amazon, Tesla, and even Nvidia (disclosure: I own AMZN). They\u2019re great companies, but not necessarily great investments at today\u2019s prices.<\/p>\n He also just told subscribers to lock in a 106.7% gain on AMD after analyzing its complicated OpenAI deal \u2013 Eric is adamant about owning only certain AI plays today.<\/p>\n To help investors navigate what to sell \u2013 and where to reinvest profits \u2013 he recently released a \u201cSell This, Buy That\u201d<\/a> research package. It lays out which AI (and non-AI) plays still have the earnings strength to thrive in this Reflexive Economy.<\/p>\n Inside, he spotlights three under-the-radar stocks he believes are \u201cBuys\u201d \u2013 companies with the real cash flow and growth potential to protect and multiply your money as this late-stage bull evolves.<\/p>\n You can see all three tickers \u2013 free of charge \u2013 in Eric\u2019s special broadcast.<\/a><\/p>\n For offense, look to veteran trader Jonathan Rose<\/p>\n A former professional trader who\u2019s trained more than 100 pros, Jonathan now helps everyday investors trade the same setups used on Wall Street.<\/p>\n He focuses on short-term momentum and disciplined risk control, and his results speak for themselves. Here are just a handful of his recent trade returns and the hold periods:<\/p>\n 209% in 13 days \u2013 LYFT<\/p>\n 275% in 25 days \u2013 ETHA<\/p>\n 700% in 15 days \u2013 MP<\/p>\n 227% in 49 days \u2013 U<\/p>\n 534% in 3 days \u2013 MP<\/p>\n On Tuesday, Jonathan \u2013 joined by Eric, Luke, and Louis Navellier \u2013 held his Profit Surge Event<\/a>. They discussed today\u2019s most lucrative investment trends and how they\u2019re playing them.<\/p>\n While Eric, Luke and Louis tend to focus more on medium- or longer-term holds, Jonathan zeroes in on the short-term \u201csurge points\u201d that occur inside those same trends. Look again at the list above to get a sense for how quick these trades can be.<\/p>\n