Gill Capital Partners February 2024 Market Update
As we mark the halfway point of the first quarter, we have a lot to share! We began the year with the continuation of many of the trends we saw last year, particularly in the stock market, which is frustrating bears and naysayers alike. We have updates on several economic data points including GDP, inflation, earnings, and interest rates. Additionally, we were thrilled to host our first Speaker Series event of 2024 on February 1st with Liz Ann Sonders, the Chief Investment Strategist at Charles Schwab, and will summarize the key points from our discussion with her. First things first, however: congrats to the Chiefs on their hard-fought Super Bowl victory! What a great game!
Interesting Chart of the month – As shown in the chart below, the top ten stocks in the S&P 500 (Apple, Microsoft, Amazon, Nvidia, Alphabet, Tesla, Meta, Berkshire Hathaway Eli Lilly & United Health still only nine) now comprise over 33% of the index, the highest concentration by market capitalization on record. These are generally the same stocks that have performed exceedingly well over the past few years. While their stock prices are at all-time highs, so are their earnings. These are not the tech stocks from the late 90s. These are massively diversified and profitable corporations that are leading innovation in AI, driverless cars, communications, energy, healthcare, and banking, among others.
Gill Capital Partners Speaker Series – Liz Ann Sonders
We kicked off our 2024 Speaker Series with one of our favorite market strategists and speakers, Liz Ann Sonders. Liz Ann is the Senior Vice President and Chief Investment Strategist at Charles Schwab & Co. She is a frequent guest on CNBC and Bloomberg TV and is regularly quoted in the Wall Street Journal, Barron’s, and the New York Times. We appreciate her down-to-earth approach and unique insights into the economy and markets. Below are a few key takeaways from Liz Ann:
Inflation – Inflation is generally moving lower, but its trajectory is not likely to be smooth and linear. We have moved into disinflation, if not outright deflation, in many service-related sectors. She believes this disinflation cycle has further to go, and we will likely experience a few more fits and starts as inflation continues to trend lower.
Fed Reserve– Liz Ann believes that the July 2023 rate hike was the last in this cycle, but inflation is not yet at the Fed’s target. The Fed needs to be very confident that inflation is under control before initiating rate cuts.
Geo-Politics and Impacts on Markets – Geo-political events have been volatility drivers in the past, but their impact has generally been short-lived. Geo-political events have historically been more impactful when they have created protracted problems that feed through the commodity markets, particularly the energy markets, leading to significant spikes in oil prices that ultimately have a significant impact on the U.S. and global economies. We have yet to see that happen in this cycle.
Consumer Strength – There are some cracks here and there, but the consumer remains relatively strong. Consumer and auto loan delinquencies have picked up, but it is mostly contained to the lower end of the income spectrum and does not represent a serious problem in aggregate. The majority of debt in the system is fixed at lower rates, allowing consumers to weather higher rates.
Interest Rates – Liz Ann believes we are in an environment where bond yields and stock prices will move opposite one another, and volatility is likely to calm down in fixed income. Markets will begin to trade on fundamentals, as opposed to speculation, as we saw at different times last year.
Crisis in Small Banks – While there are issues at some small banks and within certain areas of commercial real estate, Liz Ann does not see it resulting in a 2008-style financial crisis, as banks are generally much better capitalized and the issues this time are much more narrowly focused. However, there will be some unsettling news to come for certain banks and real estate related investments.
Recession talk – We need a more nuanced way of thinking about this period, as many parts of the economy (manufacturing, housing, consumer related) have gone into a recession. However, we have had the offsetting strength of the services economy, which has kept the economy as a whole out of recession. Looking ahead, we continue to see the concept of a rolling recession playing out, with pockets of strength and weakness existing simultaneously.
Stock Market – Liz Ann has concerns about the concentration in tech stocks that has driven markets. While it has improved slightly, she would like to see the rest of the market catch up to these small handful of stocks as a more durable sign of a healthy economy.
Recent Economic Data
Several key economic data points have recently had surprises to the upside:
Gross Domestic Product (GDP) – As shown in the chart below, GDP increased at an annual pace of 3.3% in the fourth quarter. That is compared to the Wall Street consensus estimate of 2%.
This follows an extremely robust third quarter in which GDP grew at a 4.9% pace, blowing away economist forecasts of 1.9% growth. The U.S. economy accelerated at a 2.5% annualized pace in 2023, well ahead of the Wall Street outlook at the beginning of the year.
Our View – The GDP numbers were really impressive, especially coming at a time when many economists are calling for recessionary numbers. We have seen quite the opposite, and this is really a testament to the resilient U.S. consumer. Consumer spending was the key driver of the expansion. We are seeing some cracks at the lower end of the consumer base, but in aggregate, given the current state of the labor market, the consumer appears to be holding up well.
Jobs – We got another look at the state of the labor market with the monthly non-farm payroll report. Job growth posted a surprisingly strong increase in January. Non-farm payrolls expanded by 353,000 for the month, much better than the 185,000 estimated by economists. The unemployment rate held at 3.7% against an estimate of 3.8%. Wage growth also showed strength, as average hourly earnings increased 0.6%, double the monthly estimate. Finally, December’s job gains were revised upward by an additional 117,000 jobs from the initial estimate.
Our View – This was a blowout jobs report. Economists continue to anticipate weakness in the labor market, but it simply has not materialized. Similar to the GDP numbers, the surprises to the upside are a bit breathtaking considering that many thought we might be in or approaching a recession. As shown in the chart below, the unemployment rate is still hovering near historically low levels, and this paints a picture about the strength of the consumer. We are not going to see a significant recession, or even a mild recession, with unemployment under 4%. For now, this economy continues to weather higher rates better than nearly all economists predicted. The recent strength in the labor market, combined with the strength of the overall economic picture, has the bond market pulling away from interest rate cuts in the near-term. This is pushing interest rates higher once again (more on this below).
Inflation - We received the monthly report on consumer price inflation (CPI) this week and it showed that inflation rose more than expected in the month of January. The consumer price index increased 0.3% for the month and was up 3.1% on an annual basis. This was down from 3.4% in December, but came in hotter than consensus forecasts of 0.2% and 2.9%, respectively, which spooked markets.
Our View – This was a disappointing number, showing that consumer prices are running a bit hotter than hoped. As Liz Ann mentioned, the disinflationary process is going to happen in fits and starts, and a bumpy road lower should be expected. Once again, shelter prices were the main culprit, holding prices higher than anticipated. Food prices were also up slightly, though energy helped offset some of the increase. While the market was hoping for a slightly lower number, it still appears that inflation is generally moving in the right direction (see chart below).
It is important to remember that a lower inflation rate does not mean that prices are falling; rather, it simply means that prices are rising more slowly. Consumers are still feeling the pinch of higher prices for items they buy most often. We are keeping our eye on energy prices very closely as oil has been at low levels for some time now despite the conflict in the middle east. The consumer is very sensitive to oil prices, so any significant move in prices at the pump hits the consumer quickly.
Federal Reserve & Interest Rates – Interest rates have moved modestly higher since bottoming at the end of the year. As of this writing, the 10-year Treasury rate is hovering right around 4.3%, up from 3.8% in late December. The bond market has gradually been pulling back on the pace and timing of projected interest rate cuts following strong economic reports and hotter-than-anticipated inflation readings.
Our View – The current economic backdrop does not seem to be conducive to interest rate cuts, yet. The Federal Reserve wants to know that inflation is well under control. We are well on that path, but we are not there yet. While the market wants lower rates, it is a positive thing that the economy does not need the Fed to come to the rescue. GDP, jobs, and inflation, taken together, continue to paint a picture of economic strength. The market is hoping for lower interest rates, but the current data is not going to create any urgency among Federal Reserve members to lower interest rates immediately. We continue to believe that the Fed is likely to begin its process of interest rate normalization (rate cuts) later in the year.
As always, please let us know if you have any questions or concerns, or if we can provide assistance with any other financial planning matters including education, taxes, insurance or estate needs.