Tech Is Rolling Over. Yields Are Falling. Why Jim Paulsen is Watching the Walmart Recession Signal

Jim Paulsen · Paulsen Perspectives (Substack)

Financial conditions are restrictive in the top tightening quartile, contrary to the Fed's accommodative view.

Paulsen tracks eight forces: five policy measures (change in 10-year yields, the yield curve, real money growth, the real dollar, fiscal impulse) and three economic forces (oil, CPI inflation, real wages). Over the past year, on a three-month average, six and a half to seven of the eight are restrictive. Historically, when conditions are in the top restrictiveness quartile, forward S&P 500 returns are noticeably weaker than in less restrictive quartiles, where forward returns averaged about 18% annualised. He notes that the Fed said it saw no restrictive financial conditions, and he argues conditions are now in the tightening quartile, so the Fed is wrong.

“it certainly has a noticeable impact historically when you're in that upper... quartile where we are in policy tightening.”at 10:35

Jim Paulsen · Paulsen Perspectives (Substack)

The Fed's committee consensus and reliance on backward-looking data make it prone to policy error.

Paulsen argues that the Fed, as an institution, is tied to the most recent economic reports and cannot easily say that things are bad now but will improve, so policy looks backward. Its committee structure produces groupthink and consensus views, which he says are notoriously wrong when managing money. He also criticises constant Fed communication, arguing that it does not produce clarity. He contrasts this with Volcker, who made decisions and acted on them.

“One is they have a very short perspective on just the most recent data is overly influential in what they do as an institution. And secondly, they're only looking mostly backwards most of the time.”at 17:45

Jim Paulsen · Paulsen Perspectives (Substack)

Fed is tightening on averages that mask an economy where most GDP is nearly stalled.

Paulsen argues the economy is split between a new, innovation-driven economy that runs on its own cycle and the old economy, which is rate-sensitive through yields and the dollar. The Fed's tools were built for the old economy and do little to the new one. Averaging the two makes the economy look good enough to justify further tightening, even though roughly 84-86% of GDP is nearly stalled. He thinks the Fed is using one policy to fit two very different situations because it lacks enough policy tools to address this.

“the average is still good enough to to convince the Fed it needs to tighten even further even though 84, 86% of the GDP is probably dying already or near death, barely moving, if you will.”at 50:57

Jim Paulsen · Paulsen Perspectives (Substack)

Walmart recession signal has led Fed moves well and is falling again, pointing to Fed easing.

Paulsen compares the Walmart recession indicator with the Fed funds rate and finds it has a very good record. The indicator turns down before the Fed eases and turns up before it tightens. In the most recent cycle it fell before the Fed began easing after the 2022 inflation, paused when the Fed paused, and fell again when the Fed resumed. It peaked on August 15 and has been declining since, which he reads as a signal that the Fed will ease again.

“And you could see, boy, I'll tell you, this has had a very good record. When it has gone down, it's led the funds rate lower.”at 1:00:32

Jim Paulsen · Paulsen Perspectives (Substack)

Slower growth will force the Fed to stop tightening and start easing, as inflation falls.

Paulsen expects slower economic conditions to force the Fed to give up tightening and start easing. He argues inflation will come down even if the geopolitical crisis continues. Oil oscillating around $100 would produce zero month-to-month inflation changes, so inflation rates would still fall. He also notes non-energy prices have already rolled over, so the energy shock is not the only driver of inflation.

“It's gonna force the Fed's hand to give up tightening and start easing. I do think that inflation is gonna come down probably even if the crisis continues.”at 1:02:48

Jim Paulsen · Paulsen Perspectives (Substack)

US real GDP growth is no better than 2%, and the economy is still fairly weak.

Paulsen acknowledges some pickup in recent data, but says it is not supercharged. Apart from AI investment spending, most of the economy is still fairly weak. Real retail sales have grown only modestly over the past year, and employment growth of about 0.5% a year for two years running means almost no new jobs are being created, though layoffs are also absent. He argues that standards have shifted, so that data which would once have prompted a more reactive stance now seems healthy. He believes growth is no better than 2% in real terms even in good quarters.

“I think we're growing no better than 2% in real GDP even for the good quarters, overall.”at 8:22

Jim Paulsen · Paulsen Perspectives (Substack)

Economic surprises are rolling over, so expect disappointments as lagged policy tightening hits.

Paulsen's policy index combines 50% weight on the 10-year yield and 25% each on the real dollar and WTI crude. Lagged about three months, it tracks the Citi US economic surprise index fairly closely. In 2025, yields, oil and the dollar all fell, and surprises turned up in early 2026. Oil has since rebounded, and the dollar's decline has stopped. Surprises have now started to roll over, falling from about 45 to 33. He reads this as a shift toward disappointments, with a lag of about three months.

“And I would argue we're headed to a period of disappointments.”at 27:23

Jim Paulsen · Paulsen Perspectives (Substack)

Stock-market leading indicators for retail, manufacturing, housing and jobs are pointing to slowing growth.

Paulsen argues financial markets lead real economic reports. Real retail sales have picked up this year, but the relative performance of retail stocks has been heading south, and it has led retail sales consistently. The ISM manufacturing PMI is rising while industrial stocks are falling, a pattern that has a close historical relationship. Homebuilder stocks have followed housing starts and suggest they could weaken, and job openings are tracking a resources and employment services index that is pointing lower. The rearview-mirror data look fine, but the forward-looking indicators that usually lead all point south.

“If you look at the stuff that typically looks out the windshield most of the time, it's all pointing south.”at 54:13

Jim Paulsen · Paulsen Perspectives (Substack)

Walmart outperforming upscale retailers signals consumer and credit stress and weaker growth ahead.

Paulsen's Walmart recession signal tracks Walmart stock relative to general and luxury retailers, going back to 1990. When Walmart outperforms, it suggests more of the income distribution is worried about its economic future and trading down to budget retailers. He therefore reads a rise in Walmart's relative price as economic weakness and credit stress. The indicator has moved coincidentally with real GDP growth and with the unemployment rate, sometimes leading it. He doesn't expect growth to turn negative, but he sees stress in the economy that may show up as weaker real GDP growth and job-market strain.

“And so in some sense, a rise in the relative price of Walmart stock reflects economic weakness, reflects credit stress.”at 58:48

Jim Paulsen · Paulsen Perspectives (Substack)

No recession or full S&P bear, but a nasty correction is likely, especially among new-era stocks.

Paulsen is cautious and positioning conservatively. He does not expect a recession or an all-out S&P 500 bear market, but he thinks a fairly nasty correction is possible, particularly among new-era stocks. He cites complacency among investors, rising restrictive pressure from policy, and a fragile economy. He acknowledges the seasonally favourable November-to-April period. But when conditions were restrictive going into it, the average six-month return was only about 3% (about 6% annualised), and some good seasonal windows still produced 10% to 18% declines. He says he may be wrong and would change his view if the evidence changed.

“I still don't think we're gonna have recession. I still don't think we're necessarily gonna have an all out S and P 500 bear, but I still think it could be a fairly nasty correction particularly among new era stocks.”at 5:40

Jim Paulsen · Paulsen Perspectives (Substack)

Market gains are concentrated in the Mag Seven while other sectors lag, though this breadth gap may cushion a crash.

Paulsen splits this year's market into three groups: AI, up about 35% year to date; inflation-assisted energy and materials, up about 32%; and the remaining seven S&P sectors, up only about 2.5%. The Mag Seven are up about 45%, while the modest seven have annualized under 10% since the 2022 low, so the index is far more concentrated than its level suggests. Recently the Mag Seven and the other sectors have diverged for the first time in this bull market. He sees this bifurcation as dramatic and as a possible saving grace, because the lagging parts of the market have not participated in the rally and may cushion a crash the way the broad market did not during the dot-com period.

“Because this year or year to date, the modest seven, the remaining seven stock... Sectors of the S and P five hundred are up two and a half percent. There's no bull in modest seven.”at 46:28

Jim Paulsen · Paulsen Perspectives (Substack)

Expects a 15% S&P correction and 20%+ tech drop, then about three more years of bull market.

Paulsen's most likely outcome is not an overall bear market. He expects slower growth to force the Fed to ease and inflation to fall, but when concern shifts from inflation to recession, rate cuts can coincide with falling stocks. He sees a period in which that happens, possibly a 15% S&P correction with a 20%-plus tech decline, before a revival sets up roughly three more years of bull market. The bifurcation in this cycle, with much of the market not participating, is why he does not expect a dot-com-style collapse.

“And then we revive it. And then maybe if we have a 15% correction and 20 plus in tech, we now have set us up to go another three years in another run before this bull finally ends.”at 1:04:37

Jim Paulsen · Paulsen Perspectives (Substack)

Much AI usage is free today; real pricing will reveal demand elasticity, and AI must become profitable.

Paulsen argues that AI adoption is still small, and much of the current usage comes from people using it for free, including himself. Providers will eventually close those free portals and put a real price on the service, which will reveal how elastic demand is. He has heard from contacts that companies find AI useful, but he says the usage must become mainstream and ultimately profitable for it to affect the economy in a meaningful way.

“And not only does it have to be used, and they're still struggling just getting that pushed out, but ultimately, it will have to be profitable.”at 35:55

Jim Paulsen · Paulsen Perspectives (Substack)

Price increases for AI will cut usage, and rising depreciation will force further price hikes.

Paulsen says companies he has talked to find AI useful, but as they start facing the price tags they are rightsizing how much they use it, and he has already heard this communicated back to him. He concludes demand is not infinitely elastic, so some demand reduction will follow once prices are charged. He adds that AI capital spending and depreciation are currently balance-sheet items but will eventually hit income statements, which will necessitate even more price hikes. He expects AI to succeed over time but not as quickly as people suggest.

“But as they start getting the price tags to it, they're starting to rightsize how much they're using it.”at 36:58

Jim Paulsen · Paulsen Perspectives (Substack)

AI depreciation will hit income statements, forcing more price hikes and slowing adoption.

Paulsen argues the economics of AI spending are not yet visible in reported earnings. AI capital spending and the depreciation from it currently sit on balance sheets, but when that depreciation reaches income statements it will require even higher prices. Combined with the demand reduction from price increases, this is a challenge for AI providers and the reason he thinks adoption will be slower than people expect.

“What's gonna happen to depreciation and capital spending ultimately hits their income statements. Right now, it's a balance sheet item. But when it hits income statement, that's gonna necessitate even more price hikes”at 37:17

Jim Paulsen · Paulsen Perspectives (Substack)

Big bond yield move without a stock correction means some market turbulence is likely.

Paulsen looks at bond yield moves going back to 1998 and finds that large yield moves have almost always coincided with some downside reaction in stocks, even if not a 10% correction. This cycle has had a large bond yield move in a short time with no stock correction at all. He doubts the market will get out of it that easily and expects some turbulence, since the bond move has been significant.

“You gotta have a little bit of probably turbulence here in the stock market because this has been a pretty big bond move now in short order.”at 55:32

Jim Paulsen · Paulsen Perspectives (Substack)

Stocks have underperformed bonds whenever yields sat above 5%; yields just broke back through 5%.

Paulsen charts stocks relative to long-term Treasuries back to 1926. Stocks outperformed bonds until yields reached about 5% at the end of the 1960s. Once yields reached 5%, stocks did not outperform bonds again for four years, until yields dropped back below 5%. Yields have just broken through 5% again for the first time in a while. He presents this as a historical pattern that may or may not mean anything, but it is worth watching.

“Then once the bond yields got to 5%, stocks didn't outperform bonds again for four years.”at 57:18

Jim Paulsen · Paulsen Perspectives (Substack)

Bond yields will be lower in the not-too-distant future, not higher, as the Fed eases.

Paulsen expects slower growth to force the Fed to ease, and falling inflation to reinforce that. Because of this, he expects bond yields to fall in the not-too-distant future, which he thinks most people do not currently expect. He also notes that rate cuts won't necessarily lift stocks if concern shifts from inflation to recession.

“That will be a big surprise for most right now is that bond yields will actually be lower in not too distant future rather than higher.”at 1:03:36

Jim Paulsen · Paulsen Perspectives (Substack)

Tech's surge in new-era spending is out of bounds; a rollover would hurt tech leadership.

Paulsen plots nominal new-era spending as a share of nominal GDP back to 1947. It has trended upward but stayed close to a consistent trend line. It was about 7% in the early 1990s, under 10% in 2015, and is now about 14%. The last couple of quarters show the fastest growth in that ratio in postwar history. He says this is too extreme and too fast to keep up, and compares it unfavourably with the dot-com run. Detrended new-era spending tracks tech's relative performance: when it grows above trend, tech outperforms by about 4%, and when it falls, tech does not outperform. Even if spending stays strong but grows less strongly, he expects an impact on tech leadership. He says it is already close to its high relative to trend and that such growth cannot be sustained indefinitely.

“And my problem with tech is it's just too extreme, too too much, too fast. It's just out of bounds.”at 30:02

Jim Paulsen · Paulsen Perspectives (Substack)

Tech's record 20-year run signals investor complacency and bubble-style warning signs, though not irrational exuberance.

Paulsen compares tech cycles since 1926 and finds the current one has lasted about 20 years, nearly three times longer than any previous cycle, and has outperformed in roughly 80% of rolling 20-year periods versus 41% at the dot-com top. He calls this complacency rather than irrational exuberance: investors are comfortable, feel they cannot sell even though they know they hold too much, and everyone is overweight at once. He says he sees warning signs of past bubbles even though he does not fully understand AI. Valuations are high, but he sees complacency as the bigger issue, and the risk is a simultaneous exit when the trend turns.

“To me, this is... This chart is the definition of complacency.”at 42:31

Jim Paulsen · Paulsen Perspectives (Substack)

Complacency is building in stocks as investors feel wealthy after a long, easy run.

Paulsen argues that the stock market has been strong for a long time, and investors feel wealthy and find it easy to make money. That complacency makes a pullback more likely. He thinks the next breather may come from complacency and discomfort rather than irrational exuberance. He has seen evidence of this in the market, and he is watching it closely.

“I think there's really a lot of complacency building into the stock market as a whole.”at 3:14

Jim Paulsen · Paulsen Perspectives (Substack)

The dollar's large 2025 decline was the biggest stimulus, and that tailwind has now stopped.

Paulsen argues that the largest policy stimulus in 2025 was not oil or yields, even though those moved a lot. It was a huge fall in the real value of the US dollar. That stimulus has now stopped. Because policy effects lag by months, the dollar's reversal is part of why he expects softer economic momentum to follow.

“And the biggest policy stimulus last year wasn't oil. It wasn't yields even though they were big. It was a huge drop in the real value of the US dollar, and that has stopped.”at 24:09

Jim Paulsen · Paulsen Perspectives (Substack)

Oil's rebound is a restrictive pressure that will pull economic surprises lower.

Oil fell from about $65 to about $55 a barrel in 2025, giving the economy a stimulus, and economic surprises turned up a few months later. Oil has since climbed back up. Paulsen's index shows that this rebound is a restrictive force. Using a three-month lag, he expects the rise to push economic surprises down. He also notes the pain of high pump prices, with gasoline at about $60, as a factor in consumer caution.

“Oil had a dip. It went down. And then guess what? A few months later, economic surprises turned up again. What's happened to oil since? Well, it's gone back up.”at 26:45

Jim Paulsen · Paulsen Perspectives (Substack)

US inflation will fall: flat $100 oil yields zero monthly change, and non-energy prices are already rolling over.

Paulsen argues inflation depends on month-over-month changes. If crude oil oscillates at $100 without escalating, monthly changes in energy inflation are zero and the inflation rate falls. He thinks that a rise to $150 a barrel would be needed to keep inflation elevated. He also points to evidence that non-energy prices have already rolled over and are coming down, after moving together with energy prices. He concludes inflation will come off and growth is slowing.

“if it just oscillates at a $100 crude oil, then the month to month changes are zero.”at 1:03:02