Author: cknights

July 7, 2024

Posted by Jason Edinger on Tue, 07/02/2024 – 11:22

First Half Highlights

Tempus fugit. An apt Latin reminder that time is fleeting. With the first half of 2024 already in the books, the year is flying by, and equity investors have been rewarded thus far with solid gains. All but one of the major indices (microcaps) were in the black for 1H, with the NASDAQ and S&P500 leading the way, lagged by the Dow and Russell 2000.

Year-to-date, size has mattered as large- and mega-cap stocks have decidedly outperformed their smaller brethren. Given massive weightings in their respective indices, the outperformance of large vs. small this year is mostly attributed to the robust gains of several mega-cap stocks, notably Microsoft, Nvidia, et al. The 2024 reality: it is all about tech and large-cap. Nevertheless, stocks overall have edged higher this year, turning in a great first half and extending the rally that began in October of 2022*.

The first half of 2024 was more challenging for the bond side of the ledger. Interest rates rose over the period, with the 10-year Treasury yield climbing from 3.9% in January to 4.6% by the end of May. This rising interest rate environment, which asserted itself across the entire yield curve, weighed on bond prices, keeping returns muted across most fixed income sectors. After a challenging 1H, current rate levels have set the stage for a better second half. Fixed income valuations look favorable across several sectors, with various investment-grade yields at or near their highest levels in a decade. Spreads remain tighter than historical averages, but the higher absolute yields should be supportive of more appealing fixed-income returns on a go-forward basis.

We would be remiss to discuss the bond environment without spending a few words on the Federal Reserve and inflation. The latter has proven to be stubbornly sticky this year, putting upward pressure on interest rates and, by extension, the Fed. Owing largely to better-than-expected economic data, the markets have hawkishly repriced their expectations on the interest rate front, with only one or two cuts remaining possible this year. Nevertheless, the overall trend is toward disinflation and softening economic data, which should give the central bank enough cover to either a) signal even more accommodative future monetary policy or b) simply begin cutting interest rates altogether. If either of these scenarios play out, it could spark a rally for bonds to close out the year.

Looking Ahead: Glass Half Risky?

Inflation remains front of mind for investors and economists. Although inflation continues to move in the right direction, the risk of a re-acceleration is very real, and any upward surprise in the data could cause serious disruptions in both stock and bond markets.

Investors don’t seem to care much about the narrow market breadth we are currently seeing. As mentioned above, the market rally has been driven primarily by just a handful of stocks (only 60% of S&P500 constituents are positive this year), which can be interpreted as a sign that the broad indices are poised for a correction deeper than any we have seen this year. There is the chance that mega-cap stocks have run too far too fast, and the markets spent the better part of June consolidating after one of the most bullish 5-month periods on record. They may have trouble getting re-energized for the remainder of the year.

Finally, markets do not seem worried about war or politics. The ongoing war in Ukraine, continued conflicts in the Middle East, and China’s economic slowdown all have potential to cause further regional and global uncertainty that could spill over to the broader world economy in the second half of the year.  In addition, we face considerable political instability due to the U.S. elections in November. We’re likely to see this uncertainty ramp up as the political convention season kicks off this summer and we get closer to election day.

Glass 6/10ths Full

The good news is that our economy and capital markets are incredibly dynamic and resilient. We expect economic growth, while moderating somewhat, to remain broadly positive and should help the fight against inflation. Stock fundamentals are in solid shape, and total return prospects for bonds are looking as good now as they have in a very long time. Finally, we have a Federal Reserve who has made it crystal clear that its next move is a rate cut. That recipe – slowing inflation, decent growth and lower interest rates – should favor the optimists. While there are risks, we remain overall bullish on the markets as we kick off the year’s back half.

As ever, we thank you for your continued trust and support.

* chart source: NASDAQ

All indices are unmanaged, and investors cannot actually invest directly into an index. Unlike investments, indices do not incur management fees, charges, or expenses. Past performance does not guarantee future results.

June 11, 2024

Posted by Jason Edinger on Sunday, March 3, 2024

The rally rolls on. Hard. Statistically, February is a challenging month, but this go ‘round the bulls defied the odds to end squarely in the green (and in record territory). The Dow, S&P500, and NASDAQ all made fresh all-time highs, while small caps (Russell 2000) made a new 52-week high. The Magnificent 7 stocks were mixed, as several of the darling tech companies failed to achieve new highs with the market and show signs of topping out. All S&P sectors were higher on the month, led by consumer discretionary, industrials and, of course, technology. All told, February did not suffer its usual sluggishness and as a result, 2024 is off to a very solid start.

The biggest story of the month was Nvidia, the poster child for both the tech sector and, more importantly, artificial intelligence. In its most recent quarterly update, Nvidia reported mind-boggling numbers, including a 265% increase in annual revenue. CEO Jensen Huang guided to even stronger projections for 2025 and 2026, also declaring that artificial intelligence had “hit a tipping point” with surging demand “across companies, industries, and nations.” Accordingly, Nvidia was rewarded with a $277B increase in market cap that day, an historical record for any US-listed company. The stock was up 28% on the month and helped fuel the broader rally across the major indices. Investors remain spellbound by the potential of artificial intelligence, and no company has done more to capture their collective imagination than Nvidia.

The other big story in February was the hawkish shift in rate cut expectations from March to June. The messaging out of the Federal Reserve has remained remarkably consistent in recent months. The central bank remains “data dependent” and wants to see more evidence of inflation cooling before it cuts rates. It also signaled that it would begin discussions of quantitative easing at its next meeting, effectively taking a March rate cut off the table. As such, Fed fund futures are now pricing in a 67% chance of a cut in June and just three 25bp cuts this year (see chart courtesy of CME Group).

From an economic standpoint, the data continue to come in mixed. January was the third consecutive month where the unemployment rate did not budge from its 3.7% mark, and the 24^th consecutive month below 4%. The employment number was much stronger than expected, with job creation clocking in at 353K vs. 185K expected. This was the highest level of job creation in over a year. By contrast, inflationary data were less rosy, as the year-over-year headline number came in above expectations at 3.1%. As has been the case in recent months, shelter and food at home were the biggest drivers of price increases. This report, while showing year-over-year easing in inflationary pressures, was still hot enough for the Fed to maintain its hawkish timeline as to when rate cuts will begin.

A few words must be said about cryptocurrency and bitcoin. The world’s most valuable cryptocurrency ended February with an astronomical gain of 43%, its best monthly achievement in over three years. The rally was supported by the SEC’s January approval of 11 new spot bitcoin ETFs, which have garnered substantial inflows (tens of billions) and have sparked renewed enthusiasm (and speculation) in cryptocurrency. Bitcoin is now up seven months in a row, and the wave of optimism has spilled over into crypto-centric companies such as Microstrategy and Coinbase. Resembling what we are seeing in the artificial intelligence space, it is obvious that speculation is back in the cryptocurrency markets.

Looking ahead, we have Fed Chair Powell testifying in Washington on March 6^th and 7^th. His comments will likely impact how bond and equity investors position themselves for the near and intermediate terms. In terms of economic releases, we have the usual slate of nonfarm payrolls (8^th), inflation (12^th) and FOMC rate decision (20^th).

As ever, we thank you for your continued trust and confidence. Please reach out with any questions or concerns.

*This article is intended strictly for educational purposes and is not a recommendation for or against cryptocurrency.

Posted by Jason Edinger on Friday, May 3, 2024

Indisputably, the weather affects mood, and the mood amongst investors in April was gloomy and downbeat. Equities endured a tough start of quarter, with the S&P500 posting both its first monthly decline of 2024 and its first 5% pullback in 6 months. 10 of the 11 GICS sectors were in negative territory, with only utilities ending in the black. Fixed income markets also struggled, as treasury yields increased across the curve with the bellwether 10Y yield hovering at 6-month highs and poised to challenge the key 5% level. This weakness was the dual result of sticky inflation and a higher-for-longer narrative, which served to rain on rate cut expectations and put pressure on capital markets.

During the month, we saw a significant shift in market expectations regarding the probability and magnitude of interest rate cuts. Over the last several quarters, the market was confident that we would see at least 3-4 cuts this year, with interest rate futures pricing in as many as 6-7 back in January. Expectations have quickly changed, with the market now predicting just a single 0.25% cut this year, if any at all! This hawkish sentiment was fortified by nearly all Fed committee members, who affirmed that persistent inflation data have not provided the confidence needed to embark on an easing cycle. Accordingly, yields on treasury bonds rose sharply, with maturities from 2-30 years all increasing by at least 0.45% during the month. Dark and difficult times for bond investors, indeed.

Economic data took center stage in April, as both inflation and overall economic performance were key barometers. The pace of headline inflation surprised to the upside at +3.5% year-over-year, with notable price increases in sectors like shelter and services. US inflation has levelled out in the 3-4% range for the last nine months, calling into questions whether the Fed can really get price increases down to that critical 2% level. Despite strong payrolls and retail sales, Q1 GDP figures in April surprised to the downside, signaling lower growth in the economy. This combination – stubborn inflation and weaker economic growth – gave birth to a new narrative of the dreaded term “stagflation” which is commonly defined as a period of high prices and anemic growth.

Despite the morose and overcast environment, there were some glimmers of sunshine as we closed out the month. Earnings season has generally delivered the goods, exceeding expectations with higher-than-expected growth rates. Mega cap tech stocks, to include several of the darling “Magnificent 7,” reported robust earnings, underscoring that secular growth and the artificial intelligence themes are both alive and well. The economy continues to show resiliency and strength, particularly in the labor market with the unemployment and labor force participation rates trending in a positive direction.

Finally, we note that commodities were the only major asset class to enjoy gains in April. Lately we have written here about the strong performance of gold and other commodities, and that trend continued in spite of the market challenges mentioned above. Notable strength was seen in the industrial and precious metals sub-sectors, as strong demand supported prices. Gold tagged a new all-time high and continues to break out even further. All told, gold and the broader commodity complex bear watching as there is a “glass half full” attitude towards the asset class as the skies grow greyer and darker for traditional stocks and bonds. Perhaps the dawn is breaking on a new bull run for commodities.

We hope you have a wonderful month. May the skies clear and part for sunshine. The market’s mood – and our own – could use some light right about now. If we are lucky, by the next writing spring will have finally sprung. In the meantime, please reach out with any questions, and thanks as ever for your continued trust and support.

All indices are unmanaged, and investors cannot actually invest directly into an index. Unlike investments, indices do not incur management fees, charges, or expenses. Past performance does not guarantee future results.

Posted by Jason Edinger on Tuesday, June 4, 2024

May was a solid month for equity markets, rebounding from a weak April to close in the black for the fourth month out of five this year. All the major benchmark indices closed the month higher than they began it, and the S&P500, Dow Jones, and NASDAQ all clipped new all-time highs. 10 of the 11 GICS sectors were positive, with only energy declining, owing mostly to falling oil prices. The tech-heavy NASDAQ lead the way with a 7% total return, while the old-school Dow lagged, delivering 2.6% of positive performance during the month. Overall, stocks reversed the prior month’s losses and move into June boasting an 80% monthly batting average so far in 2024. Not bad in my mind’s eye.

As has been the case in recent history, technology played the starlight role in May, turning in a 10% month to bring its year-to-date performance up to 17.3%. The sector owes much of its power to semiconductors, most notably the darling AI chipmaker Nvidia. The mega-cap tech giant delivered impressive quarterly results yet again, with both top-line revenue and bottom-line profit blowing even the most ambitious estimates out of the water. The company also guided towards even higher revenue and profit projections in the coming quarters. Accordingly, NVDA broke out to fresh record highs and was the single greatest contributor to S&P500 performance during the month. The mantra holds true:  as goes tech, so goes the market.

If fundamentals drive market performance, as is often alleged, then investors have reason to remain optimistic. Q1 corporate earnings for S&P500 companies were solid, with 78% of companies beating earnings-per-share estimates. FactSet reports that the blended EPS growth rate for all members was 5.9%, far exceeding the 3.4% estimate. Communication services alone delivered an earnings growth rate of 34%. Some caution is warranted, however. Both revenue beats and EPS surprises were below long-term averages, and if one strips out the Magnificent 7 stocks, the blended growth rate for the S&P is -1.8%. Market breadth issues remain a concern, although tech and AI momentum continue to paper over the problem, at least for now.

In terms of economic releases, inflationary data were front of mind. Encouragingly, both CPI and PCE (two related but different measures of inflation) showed prices stabilizing in April, with each statistic rising just 0.3% monthly. The market quickly responded to the inflationary downtick, reigniting hopes for interest rate cuts later this year and kicking the “higher for longer” can down the road for at least one more month. While this bucking of the trend is undoubtedly a welcome development, overall inflation remains well above the Federal Reserve’s long-term 2% target rate, and during the month Jerome Powell himself suggested that the disinflation narrative would need more time to play out before the central bank can begin cutting rates.

Nonetheless, treasuries were mostly higher during the month, as a modest decline in yields resulting from the hope of disinflation contributed on the bond side as well. The bellwether 10YR treasury yield dropped during May, hovering around that critical 4.5% level from which it has not strayed much in the past 60 days. The treasury market remains in a holding pattern, awaiting the possibility of future interest rate cuts while digesting the ever-important inflation, jobs, and GDP data as they come. To note: the 10/2-year maturity curve remains inverted, as it has been for nearly 2 years now. Classically, this would be a leading indicator of a recession on the horizon, but we see no such signs as of this writing.

That seems like a fitting way to wrap up this month’s remarks. Memorial Day has come and gone, and as we near the midway point of the year, we wish each and all of you a happy early summer. Last month we found ourselves wishing for bright and sunny skies, and there is no doubt that May delivered both in spades. Let us hope this keeps up, in terms of both the weather and the markets. As ever, we thank you for your continued trust and support.