Stocks went for a wild ride in August. The S&P 500 declined rather quickly early in the month based on economic data that was considered disappointing. Fears of investors quickly pivoted from high inflation to slowing economic growth and the potential for recession. The strongest purveyors of these fears even began to discuss emergency rate cuts by the Fed to avoid a disaster.
As the month progressed, cooler heads prevailed as follow-on economic data and some important earnings reports showed a more resilient economy than feared. As a result, stocks recovered the losses from earlier in the month and the S&P 500 challenged (but did not exceed) the all-time highs set in July.
Regarding economic data, the jobs report from early August was, in our opinion, the initial catalyst for the market selloff. Jobs created were less than expected and the unemployment rate rose to levels not seen since October 2021. Now, as stocks have largely recovered from the jobs related downturn, investor eyes turn again to the jobs report during the first week of September. Another weaker than expected report is likely to re-ignite the fears of a slowing economy and provide more evidence for those that believe the US Federal Reserve (Fed) is late to act and will not be able to avoid economic contraction (or recession).
Speaking of the Fed, consensus expectations are now for a near certainty of a Fed Funds rate cut beginning in September. To put it simply, anything but a cut will be a surprise, and if the decision is made to keep the Fed Funds rate at current levels, our expectation is that stocks will react negatively. Investors and Fed governors will still see another jobs report and inflation readings prior to their decision, so there is a chance the outlook could change. Absent a material surprise in either data point, investors are likely to continue to expect the Fed to begin cutting rates.
Investors have already begun pricing these actions into US treasury yields. The 10-year US treasury yield peak for 2024 was 4.70% in late April. Since then, the 10-year rate has fallen to 3.91% at the end of August. 2-year US treasuries have taken the same path, falling from over 5% in April to close August at 3.91%. As bond investors know, declining rates are a positive tailwind for bond prices, and bonds have rallied since the end of April and provided an offset to stock declines that was absent in 2022 (when stocks and bonds fell at the same time).
We often discuss setting proper expectations and risks for investment plans. We conduct similar exercises for the market in general. To start, we expect job trends to be stable through the end of 2024 with a higher unemployment rate by year end than current levels. We do not expect, however, to be in a recessionary condition by year end. We believe investors expect a US rate cut in September and if that does not occur, stocks will likely react negatively. We expect greater volatility in the second half of the year, as seasonal slowness in September combines with what is likely to be a highly contested and contentious election in November. Lastly, we believe corporate earnings will likely slow from current growth levels and that current estimates for 2025 are likely to prove to be overly optimistic.
As a result, we continue to advocate for a prudent and balanced approach to investing. The roller coaster in August had investors considering a “safety at all costs” philosophy followed by a reignition of risk chasing as markets climbed higher. We believe that neither strategy is prudent for investors and making trades on every market shift will likely lead to more frustration than prosperity.
What is prudent is balancing risk to the proper levels to meet your long-term goals. Using certain assets to provide protection against market declines while other assets participate along with stock rallies, all within the bounds of a well-defined investment plan, is the most prudent strategy for times like these. We believe staying the course, more often than not, is the best strategy for achieving the objectives for your money.
Posted here on Sep 4, 2024 by Jeremy Bryan, CFA