Summer’s Recap and Fall’s Forecast

Normal Ebb and Flow?

August began with a rough start for the equity markets but, luckily enough, quickly rebounded. September began in a similar fashion. A softening in economic data drove the initial pullback, particularly the higher-than-expected unemployment reported in July, as well as manufacturing data signaling weakening demand. This sparked renewed recession concerns. Stress in Japan’s banking sector and fears over the unwinding of the yen carry trade also played a role. However, as investors reassessed the situation, they realized that although the data was softening, not much else had changed which ultimately, prompted the market bounce back.

Corrections are part of normal market gyrations. In fact, since 1980 the S&P 500 has averaged a correction of approximately 14% each year. With the recent pullback of only around 6% from its recent high, the year’s performance so far could be considered better than normal.

July’s Tech Stock Switch-Up

July was an interesting month in the markets as the “Magnificent Seven” tech stocks, which had been driving the S&P 500 and Nasdaq higher, took a breather. There was an ensuing rotation from growth to value with stocks and sectors outside of technology leading the markets. As a result, the Russell 1000 Growth Index lost 1.7%, while the Russell 1000 Value Index gained 5.1%, and the Russell 2000 Small Cap Index gained a whopping 10.1%.

Tech stocks recovered in August and all major indices were up for the month. While the dip may have been a short-term buying opportunity, we caution those of you susceptible to the fear of missing out (FOMO) that it may be too late. It’s still unclear if July’s movements mark the start of a new trend or if there will be further follow-through – which we believe will be the case as we approach fall and the upcoming elections.

Fall’s Forecast

It is widely anticipated that the Federal Reserve will begin to cut interest rates at their next meeting in mid-September, especially after Fed Chair Jerome Powell remarked that “the time has come” during the Jackson Hole Symposium. Expectations are for a one-quarter point rate cut, but a half-point cut may be on the table depending on August’s employment report. Although rate cuts may seem like good news for the markets, they appear to be already priced in, and there’s a risk of a negative market reaction. The Fed dropping interest rates is often a result of slowing economic activity. However, lower interest rates may be a tailwind for small-cap stocks as they will benefit more from lower borrowing costs than large-caps.  

In addition to the expected rate cuts, we’re cautious about stock valuations. The S&P 500 in aggregate is trading at a high price-to-earnings level compared to historical averages, meaning the markets are expensive. While these valuations aren’t at absurd levels relative to major corrections of the past, it may become difficult to justify such high valuations going forward unless earnings grow more than expected. It wouldn’t be surprising to see the market slow down and possibly take a breather. Returns may be more muted than we’ve experienced in the past couple of years. Much of the good news, such as Fed rate cuts and strong earnings growth, has already been factored into the markets, leaving them arguably “priced to perfection.”

What That Means For Your Finances

If (when) the Fed’s rate cuts do happen, there shouldn’t be too strong of a market reaction since much is already priced in, as discussed. As short-term interest rates drop, income earned from savings accounts and other short-term fixed instruments will also fall. This is a good time to lock in higher rates while you still can. We expect the yield curve to “un-invert” and normalize, with intermediate and long-term rates remaining much the same as they are now.  

While we are cautious about the markets in the near term, we remain very bullish in the long term and continue to believe the U.S. growth story is intact. Advances in technology will continue to drive productivity and economic growth. Success in the markets is based on patience and maintaining a long-term perspective. Those who chase returns in the short term often find themselves being burned. Conversely, those who do not take enough risk may find themselves missing out.  

If you have money in savings or are concerned about the equity and bond markets, this is a good time to consider alternative strategies for generating income or providing protection. Contact us to discuss options that may be appropriate for you.

Give us a call: 952-460-3290.