“Only through focus can you do world-class things, no matter how capable you are.”    William “Bill” Gates

A Good Year in Just One Quarter

The first quarter saw the equity rally continue robustly, with the S&P 500 up over 10% and the tech-heavy NASDAQ 100 rising over 8%. As the quarter progressed, the advance began to broaden, a welcome sight to market bulls. Other stock indices around the world reached new highs, although China’s Shanghai Composite lagged behind and has now decreased about 50% from its 2007 peak.

Total returns for fixed income were negative, with the US Treasury ten-year yield rising from 3.88% to 4.20%. The US dollar rose somewhat counterintuitively as did most commodities, especially oil and gold.

The Narrative Changes Although It Remains Positive for Equities

The “Everything Rally” that began in early November assumed that the Federal Reserve was finished raising the short-term Fed Funds rate and would soon pivot or begin lowering rates in March. In fact, the popular belief was that rates would be cut five more times in 2024.

The Fed’s own projections showed a total of only three rate decreases, a divergence we mentioned in our last quarterly report. As the new year progressed, economic reports showed good overall growth, marked by continuing job creation. However, price level increases remained elevated, not dropping enough to meet the Fed’s inflation goal of 2%. As March ended, fixed income markets brought down their expectations accordingly.

Corporate profit growth, which surged in 2021 due to massive fiscal spending and Covid reopening, tailed off and actually dipped slightly in 2023. Currently, however, earnings have likely bottomed and with the economy providing a tailwind, may grow between 8 to 10% in 2024. This helped the participation in the stock rally to expand as the quarter went on, encouraging strategists to believe the equity rally could last longer than previously thought.

Hard, Soft or No Landing?

The durable economic expansion has lowered the chances of recession (hard landing) considerably. A “Goldilocks” or soft landing, where the economy runs neither too hot nor too cold, gained more acceptance. Recently, a new scenario — that of no landing — has emerged. This is where the economy does not moderate, and inflation remains higher than the Fed would like.

Each economic report is being carefully examined to determine which of the three scenarios will occur and will likely be a major question for the rest of this year. Inflation reports (CPI, PPI and PCE) have been disappointing so far, with January, February and March statistics showing prices still heading higher in the 3 to 4% range.

Geopolitical and Other Developments

The conflicts in the Middle East and Ukraine show few signs of abating and is contributing to the rise of oil prices, most affecting large importers in the Eurozone and Japan.

For the US, the situation is a double-edged sword. Consumers may experience higher gasoline prices this summer, but oil producers may benefit. Many European importers of oil and natural gas are switching to North American exporters, using the safer and less expensive North Atlantic route. Until now, most of Europe had been receiving its energy supplies through more hazardous or expensive routes coming from the Red Sea or around the Cape of Good Hope in southern Africa.

A new supply chain issue arose in March, when a large container ship slammed into the Francis Scott Key near Baltimore, effectively closing the large port for at least several weeks. This may further slow the path to 2% inflation the Fed has been hoping for.

The Outlook for the Third Quarter and Beyond

  • We have selectively trimmed holdings in some stocks that have appreciated the most over the last year, (for example, Artificial Intelligence and obesity weight loss companies), while broadening exposure in Financials, Industrials and Energy sectors.
  • We are maintaining a flexible fixed income strategy, ready to pivot from short to longer term when the Fed is closer to finally lowering interest rates. This may take a while longer.
  • Our satellite (alternative) strategies are maintaining their longstanding weightings in the ETF (Exchange Traded Fund) backed by physical gold.
  • It now looks like the Fed will lower interest rates at most two times this year, with fewer cuts possible if inflation continues to be sticky. At the current run rate of the economy and elevated commodity prices, the overall rate of price increases may not slow down until the second half of the year.

Although equities have done well and may be due for a breather, a fairly strong economy highlighted by good jobs growth should support corporate earnings. We reiterate that investors should not make emotional decisions based on election year headlines, as very often those decisions lead to investment losses. We believe that equities will end up having a good year, and bonds should do better by year-end.