August 2024
US Economy: Data tilts pessimistic.
U.S. household savings from the Covid era are largely exhausted and rising unemployment (4.3% in July) is driving slower income growth. Couple this with the chill in the real estate market and weaker manufacturing expectations, and the economic outlook overall is darkening. A bright spot: The Consumer Price Index for July was down -0.1% from June (+3.0% annualized), the first meaningful monthly decline since 2020.
US Stocks: New leadership.
Weaker economic data and cooling enthusiasm for AI helped pull the S&P 500 down from record highs to end July with a small gain. The Magnificent 7 tech stocks lost steam, with Nvidia down 5.3%. Leading the way were sectors poised to benefit from falling interest rates, such as real estate (+7.2%), utilities (+6.8%), financials (+6.5%) and small–cap stocks (+10.2%). Is this a temporary rotation or the start of a broadening market? Time will tell but remaining diversified is the answer.
Foreign Stocks: Japan inflates.
Equities in developed markets outside the U.S. were some of the better performers, with Japan (+5.7%) and the UK (+4.5%) at the front. Japanese stocks were boosted by strong earnings growth driven by a weak yen and an apparent exit from a decades-long deflationary cycle. With UK stocks well below historical averages, investors evidently decided the price was right. China (-1.0%) continues to grapple with weak fundamentals and pulled down emerging market results.
Fixed Income: Rate roundtrip.
The yield on 10-year U.S. Treasury bonds fell 0.4% in July, finishing the month where it started the year: right around 4%. With that backdrop, longer-maturity bonds outperformed, as investors saw higher odds that the Fed would cut interest rates in Sept. Somewhat counterintuitively, high–yield bonds (+2.0%) performed well, on expectations that default rates would not increase given the prospect of lower interest rates and better earnings.
Real Assets: AI upside plus yield.
Although commodities continued to lag on expectations for weaker global economic growth, most other corners of real assets shined. Infrastructure (+4.4%) along with utilities and real estate referenced above, have benefitted from a potent combination of AI development upside, cheaper valuations, defensive characteristics and reliable income generation. Renewable energy infrastructure was near the head of the class, up roughly 6%.
Alternatives: Ready for volatility.
Hedge fund strategies lagged in July, lowlighted by managed futures strategies (-2.4%), which faced headwinds from the changing tide of interest rate sentiment. However, the category has provided strong risk-adjusted results to portfolios year-to-date. With futures markets pointing to increased volatility as we approach the U.S. presidential election this fall, exposure to the asset class should provide a boost as hedge fund managers are able to exploit market inefficiencies.
Source of data: Bloomberg
Equities Total Return
| JUL | YTD | 1 YR | |
|---|---|---|---|
| U.S. Large Cap | 1.2% | 16.7% | 22.1% |
| U.S. Small Cap | 10.2% | 12.1% | 14.2% |
| U.S. Growth | (1.3%) | 18.4% | 26.2% |
| U.S. Value | 5.5% | 12.0% | 14.8% |
| Int’l Developed | 2.9% | 8.4% | 11.2% |
| Emerging Markets | 0.3% | 7.8% | 6.3% |
Fixed Income Total Return
| JUL | YTD | 1 YR | |
|---|---|---|---|
| Taxable | |||
| U.S. Agg. Bond | 2.3% | 1.6% | 5.1% |
| TIPS | 1.8% | 2.5% | 4.4% |
| U.S. High Yield | 2.0% | 4.6% | 11.0% |
| Int’l Developed | 1.4% | (1.0%) | 1.8% |
| Emerging Markets | 1.3% | 4.2% | 6.9% |
| Tax-Exempt | |||
| Intermediate Munis | 1.0% | 0.4% | 3.3% |
| Munis Broad Mkt | 0.9% | 0.8% | 4.1% |
Non-Traditional Assets Total Return
| JUL | YTD | 1 YR | |
|---|---|---|---|
| Commodities | (4.0%) | 0.9% | (5.2%) |
| REITs | 7.2% | 4.8% | 11.1% |
| Infrastructure | 4.4% | 8.6% | 9.5% |
| Hedge Funds | |||
| Absolute Return | 0.6% | 3.4% | 6.4% |
| Overall HF Market | 0.5% | 3.4% | 5.4% |
| Managed Futures | (2.4%) | 4.7% | 2.1% |
Economic Indicators
| JUL-24 | JAN-24 | JUL-23 | |
|---|---|---|---|
| Equity Volatility | 16.4 | 14.4 | 13.6 |
| Implied Inflation | 2.2% | 2.2% | 2.4% |
| Gold Spot $/OZ | $2447.6 | $2039.5 | $1965.1 |
| Oil ($/BBL) | $80.7 | $81.7 | $85.6 |
| U.S. Dollar Index | 124.0 | 120.6 | 118.4 |
Our Take
Some of the key items we are paying attention to that could tip the U.S. economy and markets:
- Labor market and the consumer. U.S. unemployment and layoffs continue to inch higher. With Covid era savings depleted, delinquencies on auto and credit card debt are on the rise, which means the cushion for the consumer is leaner than it has been for years.
- AI outlook. The U.S. equity market’s 2024 performance has been driven by AI-related companies. Any reversal in fortunes—such as less impressive revenue and earnings results—could impact the broader market. July’s results underscore how quickly sentiment can change. Conversely, markets could benefit from rapid, broad-based application of AI across business sectors, resulting in an immediate and demonstrable improvement in productivity and therefore earnings.
- An election like no other. Markets are likely to start pricing in the consequences of the U.S. Presidential election, including the potential for new fiscal, trade and immigration policies as well as a contested election that risks eroding confidence in the U.S. as a beacon of democracy and capitalism. Either administration may pursue policies that can affect economic growth prospects and the trajectory of inflation.
- Middle East conflict. The recent Israeli military strike in Lebanon and the putative assassination of a Hamas leader in Tehran may expand the conflict as the war between Israel and Hamas is joined more directly by Hezbollah and Iran.
- The unknown unknowns. An unexpected shock to the system is always possible but it is perceived as more likely during periods of higher instability, where we find ourselves today. The state of homeostasis that we’ve all become used to can quickly evaporate as an exogenous shock changes stability to instability.
All of the above point to rising volatility. We call it the “unwelcome houseguest” and it arrived in July with the CBOE VIX measure spiking from a five-year low of roughly 12 to more than 30 in early August. It will likely remain elevated, 17 is average, through the summer and possibly even into 2025.
It remains fair to say that the assets that appear most attractive to us on a risk-adjusted basis are those that help diversify the equity component of our portfolios, which generally looks expensive despite pockets of value in international and small-cap stocks. We continue to recommend topping-up bond exposures within core fixed income (arguably our best diversification lever), as bonds are likely to benefit if economic conditions and market sentiment deteriorate.
