As the third quarter ends, let’s dig into the data to see what we can expect in the short term as the calendar flips to the last quarter of 2025. Let’s also set the table as we enter the historically strongest period of the year for stocks, which is especially important this year considering that we escaped the usual third-quarter weakness unscathed.
Since the third quarter was so strong, we’re already hearing whispers of fear around the fourth quarter not exhibiting its traditional strength. For anyone listening to the hyperbole, let’s see if the following objective data would support any such fears.
First, let’s create a baseline understanding of what short-term technical support looks like for the overall market. Last week began a short consolidation pullback that we expected based on about five trading days of weakness leading into the new month. Still, near term technical support around 6,600 has remained intact for the S&P 500*:
This creates a limited downside picture that should be followed by a push back to new highs to end the year.
Short-term technical support strength is further exemplified by the recent breakout of small-cap stocks (as proxied by the exchange-traded fund iShares Russell 2000 ETF (IWM)). This creates an overall bullish technical indicator on an absolute basis and is indicative of a broadening market catch-up trade throughout the end of the year:
Further expanding on the importance of a small-cap breakout, generally it’s considered to be bullish and signals a fresh level of risk-on sentiment. Anytime the Russell 2000^ hits new all-time highs, it’s often meant further gains across all the major indexes.
So, this is a bullish leading indicator heading into what’s usually the strongest quarter of the year. Since the Russell 2000 is trading at an all-time high, it’s clear evidence of the rally broadening out to smaller and more diverse companies.
If the small-cap price breakout isn't enough evidence of this broadening strength, through the month of September just over 83% of “big money” investor inflows have been into small- and mid-cap companies:
Furthermore, the Russell 2000 hitting new highs is a clear reflection of investor expectations for future Federal Reserve policy decisions. Remember that smaller companies are highly sensitive to interest rates as they tend to carry more debt. It’s often floating debt, so the expected lower cost of capital will have an immediate positive impact on their profit margins and future growth potential.
That is a clear catalyst for broadening, higher stock prices. This economic setup has been clearly fueling bullish sentiment for small-cap stocks for almost a month now.
We at Cornerstone think there’s data-based support for the broadening of strength in equity markets. Still, some may counter that the current setup means the market is overheated and subsequently overvalued.
If so, it would make sense that fundamental analysis would lead to an overall recommendation to sell stocks rather than buy or hold. As we begin the fourth quarter, it would then make sense to see an increase in analysts sell ratings.
For the S&P 500, there are 4,351 ratings on stocks from analysts across the board. Of them, 55.8% are buy ratings, 38.9% hold, and 5.3% sell:
Comparatively, and more importantly, this percentage of buy ratings is above its five-year average of 55.2%. If the underlying fundamental picture of these companies didn’t support the recent price increases, we’d expect buy ratings to be well below their historical average.
Digging one level further, the information technology and communication services sectors are two of the top three sectors and have the highest percentage of buy ratings:
This is important because those sectors are cyclical growth drivers of the economy and the market.
Lastly, there’s been a quarterly gain in buy ratings, even as the market has grown. That’s additional bullishness heading into the end of the year.
Thus, barring any sudden geopolitical instability, it sets the stage for three months of more equities strength to stack on top of a surprisingly strong third quarter:
As a reminder, October-December typically stands out every year, with November being particularly strong:
Right now, the spread is 1.225. The 65-year average is 1.04, so there’s room to drop and that needs to happen. The script seems to be in process, which is a huge tailwind.
As rate cuts come into play and the spread normalizes, we should see further incentive for some of the nearly $7.5 trillion in money markets to re-enter equities as the previous allure of high yields disappears:
As cash comes off the sidelines, it becomes additional rocket fuel for stocks.
Knowing the economic and market setup heading into the fourth quarter, it's important to note that we continue to see institutional money flow strength supporting this bullish thesis:
The consistent strength you can see in the chart above becomes even clearer when examining equity inflows. They’ve been positive for almost six months:
Also, the recent climb in exchange-traded fund inflows is a clear reflection of the increasingly broad participation in equities across the market:
All in all, the objective data setup is extraordinary. Rates will continue to fall. Corporate taxes are easing. Earnings continue to beat. And there's trillions of cash still sitting on the sideline.
This is a picture where the market is not just strong, but it’s accelerating. It’s a byproduct of policy shifts, earnings, cash positioning, and broadening inflows beginning to all work in harmony.
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*Past performance does not guarantee future results.
*Investing involves risk and you may incur a profit or loss regardless of strategy selected.
* The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market.
^ The Russell 2000 Index is a stock market index measuring the performance of the 2,000 smaller companies in the Russell 3000 Index and is widely regarded as a bellwether of the U.S. economy.
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