Market In a Snap! September 22nd, 2023

By: Dave Chenet, CFA, CAIA

 CloseWeekly returnYTD return
S&P 5004,320-2.93%12.52%
Nasdaq Composite13,211-3.62%26.23%
Russell 2,0001,776-3.76%1.34%
Crude Oil90.34-1.47%12.56%
US Treasury 10yr Yield4.43%  
Source: YCharts, Yahoo! Finance, WSJ

After a “Hawkish Pause,” What’s Next for the Fed?

The Federal Open Market Committee (the Fed), as widely expected, decided this week to maintain short-term borrowing costs between 5.25%-5.5%.   Despite its acquiescent pause, the Fed released its forecast for future rates which sent a message to markets that expectations for significant rate cuts in 2024 may be too optimistic.  Currently, the market expects the Fed to maintain the current level of rates before beginning rate cuts in mid-2024 (with three total 0.25% cuts priced in for full-year 2024). 

Throughout the year, we have expected core inflation to persist above the Federal Reserve’s 2% target for longer than what the current market expectations suggest…leading to pain for markets, especially in highly interest-rate sensitive asset classes such as technology stocks and long-term bonds.  Asset prices may be beginning to reflect in this “higher for longer” scenario.

As students of economic cycles, we acknowledge that the remedy for elevated inflation might materialize through a combination of decelerating economic growth and a less robust labor market. Despite the prevailing narrative in financial media advocating for a “soft landing,” we retain a sense of caution regarding the possibility of a recession on the horizon.

In our assessment, investors who are well-prepared stand not only to endure the challenging conditions but also to uncover more appealing risk-to-reward prospects amid this evolving landscape. 


What We’re Reading:

Axios: This economy runs on Girl Power

WSJ: August Home Sales Declined to Slowest Pace Since January

Bloomberg: McCarthy Cancels House Votes, Raising Risk of US Government Shutdown

Reuters: Yellen: No signs US economy in downturn, warns against gvt shutdown

Chart of the Week:

Forward-looking economic data continues to point towards slowing GDP growth in the coming quarters.

Market In a Snap! September 1st, 2023

By: Dave Chenet, CFA, CAIA

 CloseWeekly returnYTD return
S&P 5004,5152.50%17.61%
Nasdaq Composite14,0313.25%34.06%
Russell 2,0001,9203.69%9.42%
Crude Oil85.897.37%7.21%
US Treasury 10yr Yield4.17%  

Source: YCharts, Yahoo! Finance, WSJ

Recap of Aug 24th PCM Webinar with Nosh Engineer – VP Fidelity Investments

Link to Webinar Replay

Last week we had the opportunity to sit down with Nosh Engineer – VP of the Capital Markets group at Fidelity Investments to discuss Fidelity’s economic and market outlook for the rest of 2023 and beyond (Link to the replay above).  Nosh touched on many of the themes that we have been highlighting in this newsletter.  Some highlights of Nosh’s comments were:

Inflation: Nosh noted that while headline inflation has fallen to ~3% as of late, core inflation remains well above 4%.  Nosh expects headline inflation to catch-up to core inflation as higher gasoline prices and tight labor markets keep wage inflation elevated.

Fiscal/Monetary Policy: While the Fed has moved monetary policy to restrictive territory, fiscal policy remains loose with the fiscal deficit ~8% of GDP.  Extended deficits must be funded by higher treasury issuance, pointing to upward pressure on interest rates, which in turn makes treasuries relatively more attractive to investors than stocks.

US Stock market valuation: Investors should be aware that persistently high inflation points to a lower Price/Earnings multiple for the S&P 500.  Valuations trading more in-line with a higher interest rate/inflation environment will most negatively impact the “Magnificent 7” mega-cap technology stocks, however, some of those mega-cap stocks appear more attractively valued relative to respective earnings.

Non-US stock market valuation: While European economies continue to struggle through high inflation and energy concerns, they trade at attractive valuations.  Emerging markets, especially, appear to have a tailwind of fundamental growth and attractive valuations.

We hope that hearing divergent viewpoints on the economy/market is helpful and we will endeavor to continue to hold these webinars to offer a view into our ongoing process of understanding and evaluating the investment thesis of some of the leading institutions on Wall St.


What We’re Reading:

WSJ: Chinese Stocks Are In A Slump – and Value Investors Are Excited

WSJ: Student Loans Are Emerging From Deep Freeze, and Borrowers Are Confused

Morningstar: August Jobs Report: Fed LIkely to Pause Rate Hikes As Hiring Frenzy Cools

Chart of the Week:

To support Nosh’s point about valuations and yields, this chart overlays the S&P 500 forward 12m P/E in blue with the Real (inflation adjusted) treasury yield in purple (inverted in this chart).  Typically as real yields rise, stock valuations fall. 2023 has seen a rebound in market valuation but real yields rising above their 2022 peak.  Markets seem to be betting on inflation falling and rates returning to low, supportive levels.

Market In a Snap! August 18th, 2023

By: Dave Chenet, CFA, CAIA

 CloseWeekly returnYTD return
S&P 5004,369-2.11%13.81%
Nasdaq Composite13,290-2.59%26.98%
Russell 2,0001,859-3.84%5.92%
Crude Oil81.28-0.88%1.27%
US Treasury 10yr Yield4.25%  

Source: YCharts, Yahoo! Finance, WSJ

Stocks And Bonds Have Both Been Falling.  Is This a Repeat of 2022?

Investors will not soon forget 2022 – a Federal Reserve frantically tightening monetary policy to curb inflation led to pain for both the stock and bond markets, with a diversified portfolio of 60% stocks & 40% bonds suffering its worst calendar year loss since the great depression.  After a torrid start to 2023, stocks have cooled of late as stronger-than-expected economic data has sent bond yields higher and challenged the rosy hopes of a Federal Reserve that has reached the conclusion of its rate-hiking cycle.  Bonds, in turn, have also turned lower as the yield on the US 10-year treasury bond has risen to its highest level in 15 years.  While challenging in the short-term, we do not believe that bond investors should abandon bonds in favor of (now higher yielding) money market funds for a few key reasons:

  1. The Fed now has some “ammo”:  High quality bonds typically do well when economic growth slows.  This wasn’t the case in 2022 despite consecutive quarters of negative GDP growth because interest rates were too low and inflation was still accelerating.  Inflation has now moderated and the Fed has increased fed funds rates to 5.25-5.5%.  Slowing growth can now be helped by the Fed cutting rates, a net positive for bonds.
  2. Real interest rates are now positive: “real”, or inflation-adjusted interest rates have turned positive and have reached a level that has historically slowed economic growth and inflation.  Higher real rates may counteract the still-stimulative fiscal policy stance and reduce the risk of additional Fed hikes into 2024 and beyond.
  3. Bond math may now benefit investors: while “cash-like investments” i.e. money market funds offer investors a yield advantage over longer-term treasuries, the duration (or interest-rate sensitivity) of longer-term bonds offers investors the opportunity to see the price of their bonds go up and interest rates go down.

So, at a point where the market cycle is considered by many to be “late cycle”, high quality bonds appear to offer an opportunity for investors to diversify some of the stock risk that they hold in their portfolios.

What We’re Reading:

FT: Bond fund giant Pimco prepares for ‘harder landing’ for global economy

Marcus: What if Generative AI turned out to be a Dud?

WSJ: Mortgage Rates Hit 7.09%, Highest in More Than 20 Years

Chart of the Week:

Source Charles Schwab This chart published by Charles Schwab, shows the total return of short-term bonds vs intermediate-term bonds in the 12 months following the Fed’s last rate hike.  In each of the last seven instances, investors would have been rewarded by both coupon and price gains in their intermediate-term bond positions.   

Market In a Snap! August 4th, 2023

By: Dave Chenet, CFA, CAIA

 CloseWeekly returnYTD return
S&P 5004,478-2.27%16.63%
Nasdaq Composite13,909-2.85%32.89%
Russell 2,0001,957-1.14%11.38%
Crude Oil82.632.70%2.88%
US Treasury 10yr Yield3.79%  

Source: YCharts, Yahoo! Finance, WSJ

Does the US Treasury Debt Downgrade Really Matter?

On August 1st, Fitch Ratings, one of the three private credit rating firms, downgraded its U.S. credit rating from AAA to AA+.  In doing so, it joined Standard & Poor’s, which downgraded its U.S. credit rating to AA+ in August of 2011.  Moody’s remains alone in maintaining its AAA rating. Fitch described the drivers of its decision as: rising debt-to-gdp, higher interest rates increasing the cost to service the debt as bonds rollover, rising medicare & social security spending, and “erosion of governance”.  

Those asking what this means for the stock and bond market have pointed to the 2011 S&P downgrade and the ~15% fall in S&P 500 value over the subsequent two months.  In theory, a lower sovereign credit rating should increase the interest rate that the US treasury needs to offer investors to lend them money.  Since corporate bonds typically add a risk premium on top of US treasury yields, a downgrade should theoretically also increase corporate borrowing costs and slow economic growth.  In practice, however, that is not always the case.  US borrowing costs fell after the 2011 downgrade and remained low for the subsequent 10+ years – only meaningfully rising above those levels in mid-2022.  Similarly, Japan, which is rated ‘A’ and is in worse financial shape than the US has the lowest interest rates in the world.  Fitch had warned of the potential rating downgrade during the debt ceiling debate earlier this year and the issues that it pointed out are well known by the bond market.   

While the downgrade may have little near-term impact, it should stand as a warning to policy makers and the market that ongoing deficit spending and political brinksmanship will potentially come at a cost.  That cost may be the erosion of the “exorbitant privilege” that the US enjoys as the world’s reserve currency.  Global trade conducted in U.S. dollars has allowed capital to consistently flow into US capital markets and kept borrowing costs for the US government and corporations low.  Waning confidence in the fiscal responsibility of the US government may eventually erode this privilege.      

What We’re Reading:

yahoo!finance: Warren Buffett is Buying Treasuries Regardless of US Downgrade by Fitch

CNN: Gasoline prices are spiking.  That’s a problem for Powell and the FedWSJ: Earnings Season Threatens Lofty Stocks

Chart of the Week:

                Source: Congressional Budget Office: The Budget and Economic Outlook: 2023 to 2033  

Market In a Snap! July 28th, 2023

By: Dave Chenet, CFA, CAIA

 CloseWeekly returnYTD return
S&P 5004,5821.01%19.34%
Nasdaq Composite14,3162.02%36.79%
Russell 2,0001,9811.02%12.66%
Crude Oil80.365.02%0.41%
US Treasury 10yr Yield3.79%  

Source: YCharts, Yahoo! Finance, WSJ

Recap of Presidio Capital Management Webinar We had hoped to share a replay of the webinar that we hosted this week with special guest, John Tousley, CFA, Managing Director – Goldman Sachs.  However, due to an unnamed staff member selecting ‘pause recording’ instead of ‘record’ (don’t worry, Dustin, I won’t tell anyone it was you), we do not have a recording to share with those of you who were unable to attend.  So, instead, below are a few highlights from the conversation:  

  • Dustin hosted John Tousley for this conversation.  John is the Global Head of Market Strategy for Goldman Sachs Asset Management.  He is regularly featured on financial news television and consults with institutional investors on delivering successful long-term outcomes.
  • Dustin laid out the case for investor caution, including Fed rate hikes and ‘higher for longer’ rates in the face of persistent inflation causing problems for consumers & corporations (credit card/auto loan delinquencies, rising borrowing costs, lower corporate profit margins and reduced hiring).  Dustin made the point that the current AI/tech rebound may be too optimistic in light of the economic backdrop.
  • John presented the case for optimism.  He highlighted potential for the Fed to stop hiking rates, improving economic activity indicators, and an AI-driven productivity boom.  Despite his view of a “soft” landing, John expressed a Flat & Fat thesis, where equity gains are constrained by higher interest rates. 
  • Dustin and John took a deep dive into the investment landscape and highlighted opportunities for investors in each asset class.
    • Cash: While a tactically useful asset class to take advantage of a potential pullback, cash yields will likely fall with interest rates.
    • Fixed Income: Despite 2022’s challenges, fixed income is an important part of a diversified portfolio.  In today’s environment, it offers yield and the potential to be a ballast to the more volatile equity positions.  Investors should be selective, however, of the credit risk within their fixed income positions.
    • Stocks: While Tech/AI has been the story thus far in 2023, there is opportunity for a “catch-up” in cyclical areas of the market, including small/mid cap and non-US markets.
    • Real Assets: In a period of global economic recovery and sustained higher levels of inflation, certain commodities look attractive.
  • Overall, both Dustin and John stressed the importance for investors to build an investment plan that is designed specifically around their unique risk and return requirements.  In a market environment of high interest rates and a fully-valued stock market, investors should be prepared to stick to their plan throughout the inevitable ups and downs of the market cycle.

What We’re Reading:

WSJ: US economy grows at slowest pace in 5 months.  Inflation ‘sticky,’ S&P says

Morningstar: Fed’s Powell Talks Tough After Rate Hike, But a Pause Seen Likely From Here

Chart of the Week:

A chart from Bank of America featuring the AAII investor survey data shows a significant divide between stock positioning of retail investors (dark blue) and professional investors (light blue).  This gap will likely close – either by professional money managers chasing returns, or volatility causing retail investors to reduce their fully-loaded equity allocations.

Market In a Snap! July 14th, 2023

By: Dave Chenet, CFA, CAIA

 CloseWeekly returnYTD return
S&P 5004,5052.42%17.37%
Nasdaq Composite14,1133.32%34.85%
Russell 2,0001,931.093.68%9.84%
Crude Oil75.272.62%-6.22%
US Treasury 10yr Yield3.82%  

Source: YCharts, Yahoo! Finance, WSJ

Stocks Celebrate Cooling Inflation!

As we discussed in our Podcast this week (click here to view recent PCM podcasts – most recent episode available soon), markets celebrated CPI and PPI inflation numbers this week showing signs of moderation.  Headline inflation moderated to 3% year-over-year, while core inflation came in at 4.83% (mostly reflecting lower energy prices since summer ’22).  Small-cap stocks performed better on the week than their large-cap counterparts, extending recent outperformance (small-caps +11.7% v. large-caps +8.5% since June 1st).   Markets will turn their eyes next to Q2 earnings reports.  While still early in the reporting season, blended earnings for the S&P 500 show a year-over-year decline of -7.1%.  If this holds, it will be the weakest quarter since Q2 2020 and the third consecutive negative quarter.  Analysts are, however, expecting a rebound in earnings into year-end and for 2023 earnings to be finish the year roughly equivalent to the number posted in 2022, and 2024 to post a 10% increase in earnings.  Somewhat incongruous with this estimate, however, is the continued expectation that the Federal Reserve will begin cutting interest rates in early 2024.  Absent a “hard landing” recession, policy makers may be content to leave rates at currently restrictive levels.  While the Fed is broadly expected to raise rates at its late-July meeting, it may yet surprise markets with a hawkish message that investors should prepare for “higher for longer.”    

What We’re Reading:JPMorgan Asset’s Michele Says Global Bond Rally Is Just StartingAxios: NASDAQ 100 Index to rebalance after Magnificant Seven grow to disproportionate share

Chart of the Week: 

Market In a Snap! June 30th, 2023

By: Dave Chenet, CFA, CAIA

 CloseWeekly returnYTD return
S&P 5004,450.382.35%15.91%
Nasdaq Composite13,787.922.19%31.73%
Russell 2,0001,888.733.67%7.36%
Crude Oil70.450.86%-12.27%
US Treasury 10yr Yield3.81%  

Source: YCharts, Yahoo! Finance, WSJ

The First Half of the Year Is in the Books!

Halfway through 2023, little on Wall Street has gone according to plan.  Entering the year, many Wall Street banks were preparing for a rocky first half based on the expectation that the Fed monetary policy tightening would spill over to the economy and lead to recession.   While the Fed did indeed continue its path to higher rates, the stress in the banking system was enough to lead the Fed to pause (although, Fed Char Powell insists that the pause will be momentary and rate hikes will continue to be necessary).  Despite economic risks piling up, investors cheered the AI boom and resumed torrid buying of tech stocks.  As we turn the page to the 2nd half of the year, we pause to reflect on the following economic and market indicators which will drive asset class returns going forward:

  • Interest Rates & Inflation: The 2022 broad market sell-off was prompted by the reversal of ultra-low interest rates as policy markers combatted rampant inflation.  We have seen inflation moderate, yet Core PCE (the Fed’s preferred measure of inflation) remains above 4% and is showing few signs of a quick return to the 2% mandate.  Meanwhile, short-term interest rates are at their highest levels since 2007, the yield curve is more inverted than it has been since the 1980s, and the Fed is insistent that it will continue to tighten until inflation reaches 2%.
  • Earnings & Valuations:  S&P 500 corporate earnings fell in the first quarter and 2nd quarter expectations are expected to continue to show lower earnings as higher wages and interest rates reduce profit margins (from still very high levels); yet the rally in share prices has pushed the Price to Earnings ratio to 19.2x, almost a 10% increase since the beginning of the year.
  • Economic Growth: Forward-looking economic indicators, such as the ISM Manufacturing Purchasing Managers Index, credit conditions, the yield curve and initial employment claims point to slower economic growth.

With the year half-way through, the same Wall St banks which predicted a rocky first half and a buoyant second half of the year are raising their year-end expectations and painting a rosy picture of a ‘goldilocks’ scenario of a prolonged pause from the Fed, moderating inflation and tech stocks living up to their very optimistic expectations.  While market rallies can extend beyond “reasonable” levels, investors may be well-served by taking some profit and seeing how the growth/inflation picture plays out.


What We’re Reading:

Federal Reserve: Accumulated Savings During the Pandemic: An International Comparison with Historical Perspective

CNBC: Decision of when to retire has little to do with how much you’ve saved for retirement, report finds

McKinsey: The economic potential of generative AI: The next productivity frontier

The Economist: Americans love American stocks.  They should look overseas.

Chart of the Week:

    Source: CNN Fear/Greed Index

Market In a Snap! June 12th – June 16th, 2023

By: Dave Chenet, CFA, CAIA

 CloseWeekly returnYTD return
S&P 5004,409.592.58%14.85%
Nasdaq Composite13,689.573.25%30.79%
Russell 2,0001,875.470.56%6.72%
Crude Oil71.442.82%-10.99%
US Treasury 10yr Yield3.76%  

Source: YCharts, Yahoo! Finance, WSJ

A New Bull Market for Stocks?

The S&P 500 closed the week at a level more than 20% above the lows of October ’22, meeting one definition of a “bull market.”  Bull markets are historically favorable for equities and credit and coincide with a healthy environment for corporations to grow revenues and profits.  Before celebrating the return of the bull, however, prudent investors may want to closely examine some common bull market economic indicators that could either confirm or reject the bull market thesis, including:

  • Accelerating economic growth: Today’s leading indicators point to slowing growth, increasing jobless claims, restrained spending & borrowing and poor consumer confidence.
  • Accelerating corporate profits: long-term gains in stocks are driven by corporate profits; S&P 500 earnings/share peaked in early 2022 and stand 13% below Q1 ’22 levels.
  • A healthy US consumer: The US consumer contributes approximately 68% to US GDP growth.  Consumer spending may have peaked as the post-covid spending, which was encouraged by excess savings and government stimulus has waned.  Inflation-adjusted retail spending is 4% below its 2022 levels and tighter credit conditions and higher interest rates may keep spending constrained.
  • Broad-based stock gains:  Small-caps and cyclicals typically lead the way coming out of a bear market as they tend to more sensitive to economic changes.  To this point, small-caps & cyclicals have yet to take the reigns from their large-cap technology counterparts.

Despite the strong rally from October lows, the market is still 8% below the January ’22 peak.  The history of bear markets is littered with convincing rallies that brought bulls out of hibernation only to see then see markets sputter.  Time will tell if this is a head fake or the start of a new bull market. 

What We’re Reading:

Bloomberg: AI Proves Mightier Than the Fed for Stocks Divorced From Economy

WSJ: China Cuts Rates to Prop Up Flagging Recovery

Chart of the Week:

Markets In a Snap! June 5th – June 9th, 2023

By: Dave Chenet, CFA, CAIA

  Close Weekly return YTD return
S&P 500 4,299.58 0.41% 11.95%
Nasdaq Composite 13,261.48 0.14% 26.62%
Russell 2,000 1,864.46 1.64% 6.10%
Crude Oil 70.22 -3.38% -12.4%
US Treasury 10yr Yield 3.73%    

Source: YCharts, Yahoo! Finance, WSJ

Market Recap: Can Small Cap Stocks Catch Up to Large Caps?

As widely reported in financial media, the year-to-date rally in stocks has been led almost exclusively by mega-cap stocks (those with a market capitalization of $200B+).  Through the end of May, mega-caps boasted 17% year-to-date outperformance vs their small-cap peers.  Small-caps, however, have shown some signs of life so far in June.  They have risen over 7% vs. the 2% gain in mega-caps.  Is this a blip or a sign of things to come?

We see the potential for small-cap stocks to outperform for two key reasons:

  1. Mega-caps have rallied on valuation, not earnings: Since the October 2022 recent market low, mega-caps are +26% vs small-caps of +14%.  The outperformance has been due to rising valuations –forward price/earnings ratios for mega-caps have improved from 20 at the lows to 30 today, while small-cap stocks are trading with forward price/earnings of 12.  Seemingly, small-caps are pricing in a more challenging economic environment while mega-caps have yet to recognize the rising risk of recession.
  2. Shifting bets on the path of monetary policy: For much of this year, investors have been betting on the Federal Reserve reversing course in the near future and beginning to decrease interest rates.  That narrative is beginning to shift as inflation has not fallen as quickly as markets had hoped and a higher interest rate/higher inflationary environment seems more likely.  Easy monetary policy has lifted tech-oriented mega-caps and depressed small-caps.  The recognition that the Fed may have to remain tighter for longer has helped small-caps begin to catch-up.

In summary, the recent outperformance of small-cap stocks compared to mega-cap stocks in early June may be indicative of a broader trend. Factors such as the reliance of mega-caps on valuation rather than earnings and the shifting expectations of monetary policy have created favorable conditions for small-caps to catch up. However, further monitoring and analysis are needed to determine whether this trend will persist or if it is merely a temporary fluctuation in the market.

What We’re Reading:

Federal Reserve Bank of San Francisco: The Rise and Fall of Pandemic Excess Savings

FPRI: China is Doubling Down on its Digital Currency

Chart of the Week:

Market In a Snap! May 30th – June 2nd, 2023

By: Dave Chenet, CFA, CAIA

 CloseWeekly returnYTD return
S&P 5004,282.371.83%11.53%
Nasdaq Composite13,240.772.04%26.51%
Russell 2,0001,830.913.28%4.34%
Crude Oil71.97-1.78%-10.45%
US Treasury 10yr Yield3.69%  

Source: YCharts, Yahoo! Finance, WSJ

Market Recap: The Stock Market And The Bond Market Disagree

Stocks and bonds are sending conflicting signals about the economy.  While stock markets are anticipating corporate profits to soon break out of their second consecutive quarterly decline, their bond counterparts are taking a much more pessimistic view of future economic growth.  Current expectations surrounding profits point to S&P 500 2023 full-year profits of $222/share, roughly unchanged from 2022 and 2024 profits to grow 12%.[1]  On the other hand, the bond market anticipates that economic growth will weaken & the Federal Reserve will deem it necessary to reduce short-term interest rates by 1% over the next 12 months. 

While bond investors tend to focus on return of capital rather than return on capital and therefore often focus on risk management, they seem to be pricing in the narrative that given Fed rate hikes impact the economy on “long and variable lags”, the full economic impact of tightened monetary policy to control inflation has yet to be fully appreciated.  Higher interest rates have already led to stress in the banking sector, reduced borrowing, higher cost of capital, lower inflation-adjusted consumer spending and increased public and private debt.  Despite mounting data pointing to impending recession, the labor market remains healthy and will be highly scrutinized by investors and economists in the months to come.

In our view, investors should consider the warning signals being sent by the bond market.  Recessions are normal parts of the business cycle and often act to quell asset price bubbles.  These periods represent opportunities for disciplined investors who understand their tolerance for volatility and the time horizon for which they are investing.  We believe that it is foolish to try to perfectly time the market, but prudent to listen to what the data and market signals are telling us.    

What We’re Reading:

The Fed Beige Book

WSJ: Consumer Confidence Slips to Six Month Low

Chart of the Week:

Consumer spending has largely been fueled by debt as credit card balances have risen substantially.  Combined with the highest credit card rates in over two decades, the narrative of a strong consumer holding up the market may soon change.