Second Quarter 2024 Market Commentary

Mid-Year Review & Second-Half Outlook

Stocks posted a strong first-half gain, helped by ongoing positive economic readings and the ongoing prospects of a Fed rate cut materializing this year. Strong first halves have historically seen markets go on to produce above-average full-year returns. Beyond overall stock market performance, winners in the first half included mega-cap technology, powered by ongoing excitement around AI. At the same time, some more traditionally defensive segments, areas like utilities and gold, also saw strong performance to start the year. On the other side, what didn’t fare as well in the first half were things like small-cap equities, and interest rate predictions, which required material revisions amid incoming inflation and economic readings. 2024 is off to a stellar start in terms of overall investment returns. Looking under the hood and evaluating the fundamentals supports the case for prudent portfolio diversification and an optimistic (but realistic) view of the road ahead for the balance of the year.

We will review and reflect on some of the milestones that defined the economy and the markets over the second quarter, along with our views on their potential implications for the rest of this year. To read our full mid-year review and second-half outlook, click here.

Inflation

After hotter-than-expected inflation data in the first quarter, recent inflation readings have surprised to the downside. Inflation continued its path lower in June, with consumer price index (CPI) inflation at 3.0% annualized, the lowest reading since March 2021. Core CPI, which excludes more volatile food and energy prices, ticked down to 3.3% annualized. Falling prices for gasoline (-3.8%) and electricity (-0.7%) helped offset a 2.4% rise in utility gas service, bringing overall energy prices down by 2% for the second consecutive month. Shelter prices have been a strong driver for high inflation. It is the single largest category within the index and constitutes a large portion of most individuals’ monthly budgets. According to the S&P Case Schiller Index, residential housing prices are up 50% over pre-covid levels. The category increased 0.2% in June, the lowest reading August of 2021.

Our View

The June inflation report marks consecutive months of better-than-expected readings. After concerns over the first quarter’s readings being sticky and disinflation stalling out, there have been multiple reports in the second quarter indicating the opposite. We will be watching in the coming months for similar reports that indicate inflation is cooling. The Fed seems to want to cut rates, it appears to be a matter of “when” rather than “if.” Slowing inflation in tandem with other economic reports indicating a slowing economy, gives strong evidence to the expectation of one to two rate cuts during the second half of the year. As of July 15, the futures market has priced in a 88% chance of a rate cut at the Fed’s September meeting and a 55% chance of another rate cut at the Fed’s November meeting.

Employment

The U.S. labor market has shown early indications of cooling from a position of relative strength. Leading indicators of the labor market, including job openings and quits rates, have softened recently. In June, we saw these trends continue, with both metrics coming in at or near lows of the year. The June nonfarm jobs report indicated 206,000 new jobs added, above expectations of 190,000 but below last month’s revised 218,000 jobs.¹ The average jobs added for this year is now around 232,000, and while healthy overall, the trend remains below the average of 369,000 monthly jobs added since 2021. The U.S. unemployment rate also ticked higher to 4.1% from 4% in May.¹ It’s now at the highest level in 26 months and above the Fed’s latest forecast of a 4% unemployment rate in 2024. Even with this move higher, U.S. unemployment remains comfortably below long-term averages of closer to 5.5%.

Our View

The supply and demand dynamics of the labor market now seem to be in better balance. Labor supply has improved since the pandemic as workers return to the labor force, as seen in the rising labor force participation trends. Immigration has also been a source of supply in the labor market in recent years.

Meanwhile, the demand for labor has moderated, with companies pulling back job openings across sectors. As a result, we have seen unemployment rates grind higher while wage growth figures have gradually moderated. This gradual softening is the outcome that would be most favored by the Fed and markets, as it points to a labor market that has cooled but not collapsed. An easing labor market implies consumption may soften, but this supports lower inflationary pressures as well. With the downward trend in inflation seemingly back on track, the softening in the labor market bolsters the case for the FOMC to begin reducing the fed funds rate at future FOMC meetings.

Federal Reserve

As expected, the Federal Reserve kept rates on hold at its June meeting at 5.25% – 5.5%. The Fed also released an updated set of estimates which pointed to one rate cut in 2024, down from the three rate cuts forecast at its March meeting. However, the Fed indicated that the fed funds rate is still expected to reach 3.1% by 2026, the same as its March forecasts. Overall, while the pace of rate cuts may have shifted, the end game for the Fed remains the same: Interest rates are likely to moderate over the next two to three years. The Fed also projects that U.S. GDP growth will remain at or above 2.0% through 2026, while the unemployment rate will remain steady between 4.0% and 4.2% over the next three years. Despite months of restrictive interest rates, the Fed does not see any meaningful deterioration in the economy or outsized softness in the labor market.

Our View

The Fed’s most recent set of economic projections signal a clear view: The U.S. economy is likely headed toward a soft landing. In our view, this soft landing continues to remain a base-case scenario for the U.S. economy. Productivity in the U.S. has more recently trended higher (most likely driven by labor shortages) and may continue to do so, as artificial intelligence (AI) efficiencies are realized across sectors. While consumption and the labor market may cool, this slowdown may indicate normalization from elevated economic growth rather than a meaningful deterioration. If inflation does moderate and the Fed embarks on a rate-cutting cycle, this could also spark better economic momentum in the years ahead. We think recent and incoming data support a case for one cut (or possibly two, if inflation continues to cool) in 2024. We believe the Fed will be content to take it slow when it comes to the easing cycle, seeking to reduce restrictive monetary settings to support the economy while trying to avoid the potential for a return to rate hikes, which would be a significantly adverse scenario for markets.

Election

The biggest event in the second half of the year is none other than the 2024 presidential election. Election uncertainty may spark hesitation in some investors, but historically speaking, stocks do well in election years. Going back to 1960, stocks have risen during 13 out of 16 election years (81% of the time), higher than the average probability of an up year for the S&P 500 (73%).² residential re-election years perform even better. The last time the S&P 500 fell in a presidential re-election year was 1940, and the average market return over the past ten presidential re-election years is 17.4%.

Our View

Many people often feel uneasy about investing during election years. Soundbites from debates and polls fill the airwaves making it difficult to decipher what may or may not impact the markets. This uncertainty tends to drive heightened emotions and biases for investors. As always, it is important to work with your financial advisor to ensure your investment plan aligns with your objectives and risk appetite. Historical data shows that it is much more impactful to stay invested than to try and time the markets. The following are four takeaways for investing in election years: 1) Stocks tend to rise, regardless of which party holds office, 2) Staying invested through election cycles historically provides the greatest returns, 3) The stock market has historically appreciated during election years, 4) Individuals have historically increased cash allocations during election years, but individuals who stay invested reap greater rewards. Overall, investing through elections years can be a daunting task and we recommend working with your financial advisor to understand your plan.

Final Thoughts

With secular AI themes, the specter of rate cuts, and rising corporate profits, there are plenty of tailwinds for continued market growth in the second half of this year. We believe that market leadership should broaden beyond mega-cap technology as cyclical areas of the market may play catch-up as lower yields support the economy. We continue to expect an increase in market volatility in the third quarter as investors focus on election campaign rhetoric, Fed rate expectations and ongoing geopolitical conflicts.

As always, we appreciate the opportunity to assist you in meeting your investment goals. Please do not hesitate to contact your advisor with any questions, comments, or to schedule a portfolio/financial plan review.

1. Bloomberg, as of July 5

2. Bloomberg, as of June 20