Recent market action shows that investors are currently in a good mood about technology stocks. Last week, Nokia reported that third-quarter earnings are going to come in above expectations, helping to lift the entire tech sector. The other triggering factor was the ruling by a US court that Oracle's bid for PeopleSoft did not violate antitrust laws. This fired up expectations about consolidation in the software industry, with positive effects on many stocks in the sector.

So the techs are currently rallying ? and it is not surprising to see them enjoy a bounce after the earlier sell-off. But looking ahead to prospects in 2005, it isn't all smooth sailing and there are a lot of challenges ahead if a US economic slowdown does indeed materialise. In general, tech valuations are still discounting a good pace of growth for the rest of this year and into the next. However, the forward outlook for corporate capital spending isn't all that rosy if we are to believe the leading indicators of activity.

Corporation are fairly flush with cash, but they are being tight-fisted about spending it. They may indulge in some productivity-enhancing investments, but why splurge on expanding capacity if there are doubts about sales growth? And why hoard labour ahead of rising demand if there are few skill shortages and many workers can be hired on a just-in-time basis?

Technology stocks are, of course, cyclicals that sport some of the highest betas. In other words, they swing up and down a lot harder than other stock groups. One of their distinguishing features is that price and earnings momentum matter a lot. Normally, stocks that produce negative earnings surprises are punished severely.

In the past few months, many tech stocks have met this fate. But right now, investors appear to be in a more optimistic mood. The question is: how long will this last. With a cooling economy, companies are beginning to issue an increasing number of negative warnings about third-quarter results. Among all sectors, the ratio of negative to positive warnings is particularly high in the technology category.

In general, non-tech cyclicals have also been performing well, while defensives have been lagging. Sectors such as consumer staples and healthcare are under-performing relative to the overall market ? which means that investors are still betting on a stronger growth outlook. There is a lot of uncertainty in the air about which way the economy is heading, amid fudgy words from the Fed and mixed signals out of China. So investors are plunking for an optimistic interpretation until the evidence turns really sour.

Meanwhile, Asian markets have bounced up, in concert with the tech rally and stronger Chinese growth. Also, small-cap stocks, far from collapsing have doing quite well, thank you. At the same time, we should note that value stocks have been outperforming, this year ? in other words, those stocks with relatively low price to earnings ratios. Investors don't believe growth is dead, but they do find value attractive.

With fiscal and monetary policy boosts out of the way, consumers don't have the wherewithal to juice up the economy on their own, and firms are adopting a wait-and-see attitude. The latter have a lot of cash, and if they aren't going to be spending it on capital goods then some other avenues open to them are stock buybacks, dividend payouts and acquisitions. We are likely to see some of each, with the first two being beneficial to shareholder interests rather than those of management.

Greenspan's address before the House Budget Committee, last week, was less upbeat than his previous chatter. This means that the normalisation of interest rates is likely to proceed at a slow pace, with many pauses.