Institutional market update 1Q 2024
The first quarter of 2024 began with broad-based confidence that the Federal Reserve would begin cutting interest rates in March and proceed with reductions as inflation progressed toward the Fed’s 2 percent target and the U.S. economy continued to grow at a solid pace. On the positive side, U.S. economic resilience has persisted, but so has inflation, much to the dismay of the Fed and investors hoping for lower interest rates.
Despite stalling progress on inflation and a rebound in interest rates, the U.S. stock market has reached new highs in 2024, driven by a robust economic backdrop, strong corporate earnings, and investor optimism. The S&P 500 index gained 10 percent in the first quarter of 2024, breaching a historic level of 5,000 points for the first time ever. Artificial intelligence or A.I. remained a prominent market theme as A.I. bellwether NVIDIA returned 82 percent in the first quarter. The approval of Bitcoin ETFs led the cryptocurrency to new highs as it rose 67 percent in the first quarter.
Price action in financial markets has been characterized by many as “exuberant”, but there are widely divergent perspectives between Wall Street, where all-time highs continue to be reached, and Main Street, where the average American appears somewhat gloomy and discouraged by the new norm of high prices, which continue to rise, albeit at a slower pace.
As we enter the second quarter, all eyes turn to the June Fed meeting and the economic data and market developments leading up to the event. So far, all appears well on the economic and corporate earnings front. Inflation remains the primary area of focus and uncertainty, and lest we not forget, we have an upcoming U.S. presidential election in seven months.
Source: Bloomberg as of March 31, 2024.1
Economic soft landing, no landing, or hard landing?
In the last three years, narratives for the U.S. macroeconomic outlook went from the “roaring 20s” post-pandemic secular recovery, to imminent recession, to the current “goldilocks” and best of all worlds when it comes to growth, inflation, and expected monetary easing. The tug-of-war between U.S. economic strength and the accompanying stickiness of inflation has led many to contend that the U.S. economy could be on track for “no landing,” which effectively means the U.S. economy remains too hot and the Fed will not be able to reduce interest rates anytime soon. The economy has continued to avoid recession, with real GDP growth projected to reach 2.2 percent in 2024.
Source: Bloomberg as of March 31, 2024.
Key supports to the economy remain solid: job growth, steady consumer spending despite frustration with price levels, and a high level of government spending. The unemployment rate, 3.8 percent in March, has come in under 4 percent for 26 straight months, the longest such streak since the 1960s. After a slower start to the year, the U.S. labor market added the most jobs in a nearly a year in March.
Inflation—hotter for longer?
Despite a small uptick to 3.2 percent on the headline CPI measure in February, Fed Chairman Powell testified before Congress in March that the Fed is nearly confident enough on inflation to begin cutting interest rates. Headline inflation (inflation including food and energy prices) is struggling to fall below 3 percent while core inflation (inflation excluding food and energy prices) is still around 4 percent. While food inflation has come down, according to the latest data from the USDA, U.S. consumers spent more than 11 percent of their disposable income on eating — whether at home or at a restaurant — in 2022, the highest percentage since 1991. By the end of 2023, consumers were paying nearly 20 percent more for the same basket of groceries as they were in 2021.
Source: NielsenIQ as of March 31, 2024.
Consumers continue to spend, but many, especially middle- and lower-income households, are feeling the pain from higher prices and higher interest rates. For the first time on record, interest payments on credit cards, auto loans, and other non-mortgage debts are as big a financial burden for U.S. households as mortgage interest payments. At the same time, rising values of stocks and real estate have propelled household net worth to jump by $4.8 trillion in the fourth quarter of 2023 and a staggering $39.3 trillion (140 percent of GDP) since the pandemic. Amid all the crosscurrents impacting the U.S. consumer, the health of the labor market will remain critical to continued resilience and support for the overall economy.
Source: Bloomberg as of March 31, 2024.
Equity markets and earnings strong
The U.S. equity market rally roared on for a second-straight quarter in the first quarter. The S&P 500 posted its fifth gain of the last six quarters, adding 10.2 percent and making the period the 11th best start to a year since 1950. In what’s been called “the everything rally”, the opportunity set has been rich; all of the S&P 500’s sectors, except real estate, rose in the first quarter. Structural themes that are driving risk assets higher are a continuation of much of what we saw in 2023. Alongside hopes that the economy has officially skirted recession, at the forefront of zealous investors' minds are A.I., cloud technology, GLP-1 drugs (weight-loss drugs like Ozempic, Wegovy, Mounjaro, etc.), onshoring, defense spending, and energy infrastructure investments.
We have seen a wealth of positive catalysts for equities both domestically and abroad. The Nikkei 225, a proxy for the Japanese equity market, reached a new all-time high in February after nearly three and a half decades. The Japanese index has been on a tear for more than a year, driven by a combination of riding the semiconductor momentum from the U.S., stronger corporate earnings, a weaker yen that helps exporters, and an influx of foreign investors looking for an alternative to China’s depressed markets, where equites and real estate continue to falter.
The explosive growth of the Magnificent Seven, the darlings of the S&P 500, sputtered in March, underperforming the broader index after rising by just 1.6 percent (on a market-cap weighted basis) versus 3.1 percent for the index during the month. Tesla and Apple, the laggards of the group, fell by 29 percent and 11 percent, respectively, in the first quarter. This comes however, after a year in which the earnings of the Magnificent 7 grew by 31 percent, while the growth of the remaining 493 stocks in the index was only 1.9 percent. In fact, Nvidia’s surge to an all-time high post its fourth quarter earnings release in February was the biggest single session increase of market value in history, beating Meta’s historic gain just three weeks prior.
Is the “exuberance” justified? On the one hand, fundamentals suggest that valuations remain rather rich; the S&P 500 sports an earnings multiple of 25 times while corporate credit spreads (a measure of risk or stress) offer little room for error at multi-year tight levels. On the other hand, the feared narrowness of the equity market rally has broadened significantly, fourth quarter corporate earnings showed strong upward momentum (+7.5 percent year-over-year), and consensus expects corporate earnings to grow by another 10.7 percent in 2024. Capital markets are wide open, corporate bond issuance has set records year-to-date, and still, trillions of dollars sit on the sidelines in money markets and CDs, awaiting an entry point.
Source: Bianco Research and Bloomberg as of March 31, 2024.
When will the Fed interest rate cutting cycle commence?
In the first quarter of 2024, interest rates rose considerably amid firm economic growth, a surprising uptick in inflation, and a message of continued patience on getting inflation down from the Federal Reserve.
Market expectations, which were once projecting almost 175 basis points of interest rate cuts earlier this year, have now coalesced around three, 25 basis point rate cuts for 2024, matching the Fed's most recent guidance. Some Fed officials have communicated that they believe the Fed will cut less than three times this year due to the stubbornness of inflation. While consensus expects interest rates to fall this year, the possibility of higher-for-longer interest rates is worth noting.
For investors earnings 5 percent plus in money market funds and Treasury Bills, such a possibility would probably be welcome news. Moreover, higher interest rates have not stopped issuers from accessing capital markets and issuing healthy amounts of new borrowings. For homebuyers, consumers paying historically high rates on autos and credit cards, and those subject to floating rate debt tied to the Fed funds rate, higher-for-longer is much less palatable.
Zooming out globally, the Bank of Japan finally exited its radical negative interest rate policy, bringing the amount of negative yielding debt down to a mere $300 billion from a high of $18 trillion during the depths of the pandemic. It appears the past 10 years of negative and zero interest rates are behind us now that inflation has become a top economic and monetary policy concern.
Source: Bloomberg as of March 31, 2024.
Looking ahead
As we emerge from the first quarter, many themes remain intact, namely U.S. economic growth resilience, favorable corporate earnings trends, and positive investor sentiment. After dominating business and economic headlines, inflation remains top of mind. The exact sequence and timing of Fed interest rate cuts remains widely debated but given the resilience of the U.S. economy as short-term interest rates went from zero to over five percent, one might ask how consequential a July versus June first interest rate cut would really be or whether two versus three cuts in 2024 would matter in the grand scheme.
Geopolitics and U.S. politics remain in focus. There are currently three active geopolitical conflict zones—eastern Europe, the Middle East, and the South China Sea. Related to these conflicts we already saw one wave of an energy crisis, and current shipping disruptions in the Red Sea. U.S. deficits remain on an unsustainable path; the U.S. government is quickly closing in on $35 trillion of debt and is adding to the burden at a rate of $1 trillion per 100 days. As the election approaches, we expect elevated market volatility as forecasters iterate the implications of a continuation of current, or potentially new policies.
Source: Bloomberg as of March 31, 2024.
With news headlines focused on short-term outcomes especially for 2024, we emphasize the importance of a long-term perspective and focus on fundamentals. The first quarter went well in many respects, yet we remain cognizant of risks and potential surprises to the consensus view.
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(1) Magnificent 7 = UBS Magnificent 7 Index; NASDAQ = NASDAQ Index; Large Cap = S&P 500 Index; Japanese Equities = Nikkei 225 Index; European Equities = Stoxx 600 Index; Small Cap = Russell 2000 Index; US High Yield = Bloomberg US Corporate High Yield Total Return Index; Leveraged Loans = Bank of America Leveraged Loan Index; Gold = Gold Spot Price; EM Equities = MSCI Emerging Markets Index; EM Bonds = Bloomberg Emerging Markets Aggregate Bond Index; US IG = Bloomberg U.S. Aggregate Index; Treasury = Bloomberg US Treasury Total Return Index; Chinese Equities = Shanghai Shenzhen CSI 300 Index; Oil = Brent Crude Oil Spot Price.
The information provided is not written or intended as specific tax or legal advice. Vault Financial, its employees and representatives are not authorized to give tax or legal advice. You are encouraged to seek advice from your own tax or legal counsel. Opinions expressed by those interviewed are their own and do not necessarily represent the views of Vault Financial.
Provided by Jeffrey Albin, a financial representative with Vault Financial, courtesy of Massachusetts Mutual Life Insurance Company (MassMutual).
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