3rd QUARTER 2024 NEWSLETTER
Contributors
Fall is officially in full swing and we are gearing up for another Presidential election cycle. Meanwhile, this past quarter has witnessed new market highs, easing monetary policy, cooling CPI, an increase in retail sales and a boost in housing starts. Such tailwinds have supported diversified portfolios, albeit with volatility and recession fears in play. As well, a majority of economic data supports a soft landing and no pending recession.
Of course, there is no denying political, social and economic headwinds which could interrupt the increasingly healthy climate investors are currently enjoying. In that context, within your respective risk tolerances, some reallocations may have occurred. Those changes partially reflect how some sectors have performed strongly while others have not yet participated.
Equity Markets:
Here is an important data point that investors should not overlook. As the below chart demonstrates, the top 10 stocks in the S&P 500 have a P/E ratio of approximately 28.3x which is significantly above historical averages. However, the remaining stocks in the index have a much lower P/E ratio hovering around 18.4x – still above historical averages but with a much narrower delta than the top 10. This data indicates that the top stocks in the S&P, which we know to be quite concentrated, are expensive relative to their peers. In fact, from 2013 – 2023, the top 10 S&P 500 stocks went from making up 14% of the index weighting to 27%. That’s a big move. In some respects, the differential is justified by the growth of these companies. Still, it is important for investors not to become overly enamored with such a small handful of positions.
*Provided by J.P. Morgan
Given the current constructive economic environment we remain sensitive to myriad factors in play at this time. Among the most critical is the rapidly increasing presence of AI technology in society and business. We live in a capitalist society where competition fuels innovation. During this chapter, there will be companies that dominate the AI race and ones that cannot sustain or continue to innovate. That is American exceptionalism – the ability for a company to pivot and profit through various economic cycles, sector rotations, and yes, even disruptive technologies that have the potential to make today’s technology obsolete. This new frontier is still in its embryonic stages, holding great promise, and uncertainties as well. Still, AI will undeniably play a huge role in our futures and we will want to participate at some level.
Fixed Income Markets:
The Federal Reserve issued its first rate cut of 50bps or 0.50% at its September meeting. This is a significant step in what Fed Chair Powell referred to as a “recalibration” of policy setting investors up for an economic soft landing. High inflation is now in our rearview mirror and several macroeconomic factors continue to improve. Therefore, the Fed is now shifting its focus from a tight monetary policy to its second mandate – employment. In this environment, while interest rates may come down mildly, it is unlikely that any extreme shift from current ranges will be experienced. We remain comfortable with our fixed income allocation – overweighting corporate high yield and Emerging Market Debt while still maintaining a strong weighting of high-quality US fixed income options.
Despite interest rates falling, we believe from a risk reward perspective, short and intermediate term bonds are still providing a more balanced risk approach at this point in time. We believe it is prudent to remain well diversified and take our time with duration changes as Fed decisions are never a sure thing. Powell has forecasted more rate cuts in the coming year but these potential decisions are always subject to change based on economic data.
We wanted to provide you with our own sense of what is happening. Of course, if you have any questions about your own individual portfolios or other economic factors that we have not touched upon, we are here.
U.S. Election:
Naturally, being in the final stages of election season one can only wonder how a given outcome will impact markets. Of course, every situation is different. But history shows how annual returns for the S&P 500 under Republican and Democratic administrations are quite close. In fact, we believe it is important to remember that in the long run, the US economy and stock market is resilient. As famed investor Benjamin Graham said… “In the short run, the market is a voting machine, but in the long run, it is a weighing machine.” In essence, on the short-term, markets reflect how the public feels. But in the long run, it reflects the power and weight of earnings. And corporate American earnings are at record levels.
Enjoy the fall season!
