Another Federal Reserve meeting came and went, and policymakers opted to skip a rate hike. With significant focus on when the rate hike cycle will reach its peak, Fed officials signaled that they are likely to hold rates higher for longer through 2024 than originally expected. Rates are currently at a 22-year high.
As markets digested the higher-for-longer narrative and the subsequent move in yields, the major indices, the S&P 500, the Dow Jones Industrial Average, and the NASDAQ all moved lower throughout the month. Although, the S&P 500 is still up 12% on the year due to a group of stocks that rose earlier this year.
In fixed income, the 10-year treasury closed out the month yielding 4.57%. The rise in the 10-year Treasury, coupled with a fall in earnings yield for the S&P, has significantly narrowed the gap between the two.
Beyond the Fed...
Contrary to public discussion, and although we have seen an improvement from its peak, inflation is not under control. Given factors like wage growth and the recent spike in energy prices, the economy could see more inflation spikes. Beyond inflation, there are several other uncertainties facing the US economy:
- The U.S. lost 4.1 million days of work in August to strikes. Strikers are negotiating wage increases and the reinstatement of cost-of-living adjustments, with the United Auto Workers (UAW) being the latest to strike.
- The consumer has remained resilient as of late, but it could be a rocky road ahead. The excess savings from unprecedented fiscal stimulus during the pandemic has now been spent down as consumption levels remained resilient.
- Student loan payments are restarting, and many have already begun the process of servicing their debt. We have started to see cracks, with consumer delinquencies – auto loans and credit card debt – moving higher.
- At the end of the month, a government shutdown was temporarily averted due to the approval of a stopgap plan that will fund the government until mid-November. This shutdown would have come at a delicate time. The US recently saw its debt rating downgraded in large part because of factors previously discussed: government dysfunction, excess consumer savings being run down, delinquencies starting to tick up, and student loan payments kicking in as energy prices rise further. None of this bodes well for risky assets.
As inflation, the Fed, and interest rates remain a key narrative for the economy, we have been adamant that a soft landing outcome is unlikely. Historical evidence suggests that the Fed has never brought inflation down (from the levels we’ve seen) without causing significant economic hardship. Should the Fed begin cutting rates next year, we believe it is more likely than not that it will be in response to an adverse economic outcome, and therefore, we anticipate the Fed would have to cut fairly aggressively. Stated simply, the Federal Fund’s rate often takes the stairs up, but the elevator down.
Given this, the market is likely going to have to reprice its outlook with higher yields, rising uncertainties, and, we believe, weaker earnings. The market is forward looking, and typically looks beyond a recession until it has hit. As a result, there are rapid price moves and the adverse outcome occurs, which is the risk we are working to manage.
With that in mind, we are placing an emphasis on risk management and have adopted a defensive position strategy in our core portfolios. As active managers, we are building our portfolio to be able to weather nearing market volatility, while adding to our watchlist. In terms of pro-cyclical sectors, we are crafting our shopping lists and watching for opportunities to increase our exposure in those areas of the market.
Break’s Over: Student Loans’ Influence on the Economy
Millions of Americans have been living in a period of forbearance for student loan repayment. During this time, less than 1% of borrowers continued making payments. With payments resuming in October, how will this impact borrowers, consumers, and the overall health of the economy?
Read our views here: Break’s Over: Student Loans’ Influence on the Economy
|Economic Cycle||The economy is late cycle. The Fed has hiked aggressively and while the economy has remained resilient to date, the manufacturing industry is showing serious pain and we anticipate that the lagged effect of monetary policy will start to be felt in other parts of the economy in the coming quarters.|
|Stock Market||The US stock market has rebounded strongly off its October 2022 lows. Sentiment now appears stretched and valuations are not compelling. To date, market returns have been driven by multiple expansions. EBIT margins climbed to historical highs in the years following COVID lockdowns; elevated input costs and weakening demand and pricing power are posing a risk to the ability of corporations to maintain earnings at their projected level. Returns will be harder to come by and stock selection will be increasingly important.|
|Bond Market||Interest rates remain well off of their lows, as the economy has remained resilient and the market weighing the dynamics of still-elevated core inflation and the potential for interest rates to remain higher for longer. Corporate spreads remain well contained, particularly in light of the risks we see to the economy.|
|Important Issues on the Radar||Inflation: Factors including a resilient demand environment and wage increases threaten to keep core inflation elevated. Should this be the case, the Fed may remain tighter for longer.|
|China’s Economy: China has pivoted on the two key economic issues that acted as severe headwinds to growth over the last two years; however, economic growth appears to be stagnating and it will be critical to monitor the policy response in the coming months.|
Indicates change Indicates no change
Source: Wall Street Journal, Bloomberg, National Student Loan Data System
All investments contain risk and may lose value. This material contains the opinions of Manning & Napier, which are subject to change based on evolving market and economic conditions. This material has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed.
This newsletter may contain factual business information concerning Manning & Napier, Inc. and is not intended for the use of investors or potential investors in Manning & Napier, Inc. It is not an offer to sell securities and it is not soliciting an offer to buy any securities of Manning & Napier, Inc.
The S&P 500 Index is an unmanaged, capitalization-weighted measure comprised of 500 leading U.S. companies to gauge U.S. large cap equities. The Index returns do not reflect any fees or expenses. Dividends are accounted for on a monthly basis. Index returns provided by Bloomberg. Index data referenced herein is the property of S&P Dow Jones Indices LLC, a division of S&P Global Inc., its affiliates (“S&P”) and/or its third party suppliers and has been licensed for use by Manning & Napier. S&P and its third party suppliers accept no liability in connection with its use. Data provided is not a representation or warranty, express or implied, as to the ability of any index to accurately represent the asset class or market sector that it purports to represent and none of these parties shall have any liability for any errors, omissions, or interruptions of any index or the data included therein. For additional disclosure information, please see: https://go.manning-napier.com/benchmark-provisions.