As the US stock market continues to hit new highs, the market is shifting towards defense, welcoming a "pullback interlude" in the midst of a long bull run

For several weeks, warning flags regarding the historically high U.S. stock market have been waving, and many Wall Street analysts have begun to worry that the record surge in the U.S. stock market is masking hidden dangers beneath the surface of historically high valuations. Now, there are signs that even some long-term bullish investors have started to pay attention to these warning signals. However, strategists at major Wall Street firms such as Goldman Sachs, Citigroup, and Morgan Stanley believe that the upcoming pullback will be a minor episode in the long-term bull market journey of U.S. stocks and will create significant "buying on dips" opportunities.

Statistics show that a basket of the most robust S&P 500 index constituents compiled by Goldman Sachs has recorded its best weekly performance since early April compared to a basket of constituents with weaker financial conditions. These cash-rich companies—including Fastenal, Palantir Technologies, and West Pharmaceutical Services—have risen for three consecutive weeks, marking the longest wave of gains since U.S. President Donald Trump first announced aggressive reciprocal tariffs in April, which sent the market into turmoil.

This rotation allows traders, who have become increasingly anxious about the gains over the past three months, to reduce their exposure to fundamentally weaker companies while maintaining their positions. Buying stocks of companies with financial strength that can withstand the threats of a slowing U.S. economy and profit margin pressures from tariff policies can help limit downside risk to some extent when the S&P 500's upward momentum begins to falter.

Market Caution Begins to Intensify

"We have always felt that while investors are riding an unprecedented surge, they are also becoming increasingly nervous," said Brian Jacobsen, chief economist at Annex Wealth Management. He stated that "moderate caution among investors is very necessary in the current market."

Since the year-to-date low on April 8, the U.S. stock market benchmark—the S&P 500 index—has soared 29% and once again closed at a historic high on Tuesday. A significant portion of the surge is attributed to the frenzy driven by the artificial intelligence boom, which has propelled two tech giants—NVIDIA (NVDA.US) and Microsoft (MSFT.US)—to a record market capitalization of $4 trillion. Additionally, the robust corporate earnings of the S&P 500 index have supported this optimistic sentiment: Trump's chaotic trade policies have not caused the performance damage that the market had previously anticipated.

However, it is important to note that most of the profit growth among S&P 500 constituents is concentrated in the technology and adjacent sectors—essentially all related to artificial intelligence—completely overshadowing the weak profits of consumer goods suppliers and industrial equipment manufacturers Therefore, strategists from Citigroup pointed out that from July to early August, the value factor showed signs of an "early" rebound as investors sought companies whose stock prices were undervalued relative to their financial fundamentals. This also means that unprofitable high-risk tech companies and other speculative stocks have suffered losses.

"High-quality fundamentals and defensive-oriented stocks have consistently 'performed robustly,'" said Colin Cieszynski, portfolio manager and chief market strategist at SIA Wealth Management. He emphasized that strong fundamental telecoms, utilities, and insurance companies have performed well alongside the seven major tech giants. Other strong fundamental defensive performers include tobacco producer Philip Morris International, which has seen a 40% increase in 2025.

Is the top-heavy U.S. stock market about to face a correction?

For weeks, Wall Street strategists and analysts have been warning that this rally is "top-heavy"—the strong gains since April have primarily been contributed by the seven major tech giants. The "market breadth," defined by the number of advancing stocks relative to declining ones, has significantly deteriorated. A version of the S&P 500 index that excludes market cap weighting bias has seen declines in 10 out of the last 13 trading days as of Monday, while the market cap-weighted version of the S&P 500 index, heavily influenced by the seven giants, has risen in nearly half of that time.

The so-called "Magnificent Seven," which hold a significant weight in the S&P 500 and Nasdaq 100 indices (about 35%), includes Apple, Microsoft, Google, Tesla, Nvidia, Amazon, and Facebook's parent company Meta Platforms, and they are the core drivers behind the S&P 500's record highs.

Looking at the entire U.S. stock market, the seven major tech giants have been the strongest engine driving the market since 2023. They attract global capital with their strong market advantages, robust revenue from AI, solid fundamentals, consistently strong free cash flow reserves over the years, and expanding stock buyback programs. However, the historically high valuations of the seven giants have made Wall Street increasingly cautious—six of the seven are expected to have price-to-earnings ratios far exceeding the 25x valuation of the S&P 500 index, while the benchmark for the U.S. stock market—the S&P 500 index—is also near historical highs.

Some investors are beginning to worry that the current bull market has passed its peak, with its duration exceeding the median lifespan of previous bull markets.

"This bull market is gradually entering its twilight, and the conditions for a correction are maturing enough to trigger another bear market," wrote Tim Hayes, chief global investment strategist at Ned Davis Research, in a report on August 7.

Nevertheless, retail investors continue to pour money into the stock market, fearing they might miss any buying opportunities (i.e., FOMO sentiment). Bank of America stated on Tuesday that all major client groups have been net buyers of U.S. stocks for two consecutive weeks, with the week also seeing "the largest single-stock inflow in two years," with funds flowing into both defensive and cyclical sectors Considering the seasonal context, this relatively selective defensive layout appears cautious and reasonable. Over the past 25 years, the S&P 500 index has averaged a decline of 1.5% in September, making it the worst-performing month of the year.

However, the consensus among Wall Street strategists supports investors' reluctance to completely abandon stocks. This group of Wall Street strategists, known for their bullish outlook, has consistently encouraged traders to buy on dips, conveying a longer-term bullish perspective. They generally emphasize that while U.S. stocks may experience downward adjustments due to high valuations in the third quarter, this does not hinder the resumption of a bull market after the pullback. They view this pullback more as a "temporary pause" in the "long-term bull market journey" of U.S. stocks.

"Given that many strategists expect volatility in the coming months but also suggest buying on dips, it is hard to imagine a significant pullback occurring without a real U.S. economic recession," said Chris Zaccarelli, Chief Investment Officer of Northlight Asset Management.

The strategist team from Citigroup has raised its year-end target for the S&P 500 index from 6,300 points to 6,600 points, and expects it to rise to 6,900 points by mid-2026. This bullish report from Citigroup indicates that the "long-term bull market camp" for U.S. stocks on Wall Street is becoming increasingly large. Before Citigroup raised its expectations for U.S. stocks, some market forecasters, including Michael Wilson, Chief U.S. Equity Strategist at Morgan Stanley, had already turned more optimistic about the S&P 500 index. Morgan Stanley anticipates a potential pullback of 5%-10% in U.S. stocks in the short term, but views the pullback as a buying opportunity—primarily due to the strong earnings growth and AI capital expenditures of tech giants like Nvidia, Microsoft, and Google. Therefore, the firm previously significantly raised its target price for the S&P 500 index to 7,200 points, expecting to reach this target by mid-2026