After rallying back on Friday, the S&P 500 ended the week close to flat. But before Friday’s recovery, the index was down 2.6% from its latest all-time high. While it wasn’t pleasant, the week didn’t alter our view on the path for stocks in the year ahead.
We’ve been here before, and not too long ago. We’ve had four different similar 2.4-3% drawdowns in peak over the last 6-7 months. There was one that was a bit worse, the one ending 11/20/25, that represented a total decline of 5.1% from peak (that admittedly felt much worse at the time). It’s possible that this latest bout of weakness has played out for now.
If there’s more pain to come, we think it’s reasonable to anticipate a tier 1 garden-variety pullback in the 5-10% range. As we highlight in our “Four Tiers of Fear” framework, in the post-GFC era, serious drawdowns that have exceeded the 5-10% range have tended to be growth scares, when fears of a systemic issue or recession surface – similar to the environment seen a year ago when the S&P 500 fell 18.9% around the liberation day tariff announcement. While we take concerns about the AI trade and private markets and other matters seriously, we think it’s premature to assume that’s the kind of risk we face today.
“Heading into last week, a few of the indicators we track were signaling a potential short-term problem. As we’ve discussed the market sell-off last week, we’ve found ourselves referring to a few different charts that we track regularly.”
Lori Calvasina, Head of U.S. Equity Strategy, RBC Capital Markets
The first highlights how bitcoin and an index of private market-related stocks, as well as other risk or sentiment indicators, turned lower right before or right around when the S&P 500 experienced its 5.1% drawdown last fall. Some of these had been showing signs of weakness in early 2026, generating some concern in our minds about a looming bout of risk aversion in stocks.
Second, the two versions of the Russell 2000 forward P/E that we track had both returned to levels in line with or very close to their November-2024 highs, their most recent major peaks. This was interesting to us for a few reasons. One of these P/Es (the FY2 P/E) had helped to mark the bottom in stocks in April 2025 when it returned to typical recession lows and has been a good lens into inflections in the broader market. Additionally, Small Caps have been one of the primary expressions in US equity markets recently of the rotation trade.
Third, stock market optimism slipped a bit (after returning to levels close to most past peaks) in the latest Conference Board consumer confidence survey. To us, this was a potential sign of fading froth among the much-discussed but-difficult-to-track retail investors who have been viewed as being a strong underpinning of stock market performance over the past year.
Looking ahead, our models still argue for solid gains in the stock market over the next 12 months. With February underway, last week we completed our pre-planned monthly refresh of the math behind our 12-month-forward S&P 500 price target. After running through this exercise, we are sticking with our 12-month forecast of 7,750, and note that there were no significant changes in signal from the five models that we use to arrive at that forecast since our last update in early January.
Our sentiment model, which is elevated but not euphoric, points to a 9% gain. Our valuation/EPS test plus our earnings yield gap analysis both point to strong gains going forward, with the former baking in the current bottom-up consensus S&P 500 EPS growth of 13% in 2026 along with a forecasted year-end P/E derived from expectations of modest improvement in inflation, a few more cuts from the Fed, and stable 10-year yields. Finally, our Fed and GDP tests point to solid 12-month forward gains of 13% and 10%, respectively, if the Fed cuts a few more times and real GDP ends the year in the 2.1-3% range (both are in line with current consensus estimates and the latter has been moving up).
