Stocks Face a Breadth Test as Investors Watch for a Broader Rally

The U.S. stock market is facing a test of breadth as gains in the largest companies continue to support the S&P 500 while many other stocks remain below recent highs.

The market-cap-weighted index can rise when its biggest constituents advance, even if a wider group of companies declines. The S&P 500 Equal Weight Index provides a broader measure of participation by assigning the same allocation to each constituent at quarterly rebalancing.

More than half of the Russell 3000 was at least 20% below its June highs as of Sept. 28. At the same time, the S&P 500’s forward price-to-earnings multiple had fallen to 19 times.

The case for a broader rally depends on resilient corporate earnings, stable Treasury yields and participation from lagging sectors and smaller companies. Earnings growth was running in the mid-teens for the median stock, while the breadth of earnings revisions for the S&P 500 was approaching cycle highs.

Mike Wilson, Morgan Stanley’s chief investment officer and chief U.S. equity strategist, said the market had already absorbed several pressures, including higher energy costs, a tighter Federal Reserve, artificial intelligence disruption, questions about returns on capital and geopolitical risk.

“If those pressures ease, breadth can catch up and drive the market higher. If they do not, the index probably has more correcting to do,” Wilson said.

Wilson said broader participation could emerge after another market adjustment, while investors watch whether lagging shares begin to contribute or whether weakness spreads to the companies currently carrying the index.