Strong Market Rebound, Fed Pausing, Rest of World Slowing
What's happened recently?
Markets have continued their strong rebound as the U.S. economy continues to grow at a steady clip, with no signs of the consumer tripping up. Inflation, while still elevated, has continued to moderate, giving the Fed the ability to pause its rate hikes – at least for now.
Here are a few things standing out in the news:
- Fed keeps rates steady, signals further increases possible
- Inflation slows further, but still sticky
- Resilient U.S. retail sales
- China stimulus as recovery falters
Why is this important?
Overall, economic conditions point to slow but steady growth in the U.S. with the Fed’s hikes impacting some parts of the economy, but most importantly, hasn’t impacted consumption. However, outside the U.S. consumer, global economic growth remains fragile and is showing signs of weakness.
- As the Fed stays focused on taming inflation and rates remain high, some cracks are showing in the underlying economy. More recently, we’ve seen junk loan default rates begin to tick up, especially for those borrowers that have floating rate loans. This bears watching if it might spread to the all important consumer, which would be transmitted through job losses or slower wage growth – which we aren’t seeing at the moment.
- The rest of the world is seeing economic conditions come in below expectations. Europe is contending with faltering economic indicators, while still facing inflationary pressures and distortions from the war in Ukraine. China’s contribution to global growth might be less than expected as the hoped for economic boom after their reopening seems to have stalled, forcing the government and central bank to provide economic stimulus.
What's our take?
As risk assets rally, we remain focused on economic fundamentals and asset valuations. Between the Fed raising short-term interest rates aggressively and riskier assets rallying this year, investors are left with the same yield on cash, bonds, and equities (see chart above). Over the very short-term, this implies there isn’t much of a reward for investors taking the additional risk in equities or even corporate bonds. That being said, timing the market over the short-term is difficult and we are focused on our clients’ longer-term objectives and goals.
- Besides the consumer, the broader economic picture is still uncertain. While some economic data has come in stronger than expected, we are still contending with the lagged effects of tighter liquidity.
- The S&P 500 is up over 20% since the October 2022 low, which by some definitions would constitute a new bull market. Valuations are being driven ever higher in risk assets, which provides a less opportune backdrop for longer-term returns. Especially when coupled with an uncertain near-term economic environment.