June 2024 Commentary

Key Observations & Outlook

• Stocks experienced mixed results in June as the S&P 500 benchmark continued to rise, driven by the mega-cap technology sector, in particular AI and semiconductor related stocks.

• The S&P 500, with nearly 1/3 of allocation to the technology sector, gained 3.59% for the month and 4.28% for the quarter.

• In contrast, the S&P 500 Equal Weighted Index, which provides a broader representation of the US stock market, actually experienced negative returns of -0.45% and -2.63% for June and the second quarter, respectively.

• Softer than expected inflation data provided hope to market participants that the Fed may be able to lower rates as early as September.

• The inflation data helped lower bond yields which led to increases in bond valuations in June and brought the broader bond market as measured by the Bloomberg Agg Bond Index to a slightly positive return for the quarter.

Market Commentary

While US stocks climbed during June as measured by the S&P 500, other segments of the equity markets declined, including midcaps, small caps and non-US developed markets. The S&P 500 results continue to be fueled by a narrow range of stocks, primarily those such as Nvidia and other semiconductor stocks that are helping to power Artificial Intelligence. While the 7 largest stocks in the S&P 500 rose 16.9% during the second quarter of 2024, the remaining 493 stocks collectively lost 1.0% over the same period. During the quarter there was a widening gap between the contribution of the narrow group of stocks vs. broader measures of the stock market. While it is tempting to chalk up the divergence of returns to growth vs. value style differences or small vs. large capitalization preferences, the data suggests that investors are foregoing those basic classifications in favor of piling money into a few select names. This can be seen by the significant underperformance of both the Dow Jones Industrial Average (a measure of large cap, blue chip stocks) which was down 1.3% for the quarter, underperforming the S&P 500 by over 5%.

About mid-way through the quarter, there was a meaningful break between the direction of the S&P 500 return and that of Advance-Decline line for New York Stock Exchange listed stocks. The Advance-Decline line (“ADL”) is the difference between the number of stocks that are advancing and those that are declining. In typical markets, rises in the stock market are closely correlated with a rising ADL line, which makes sense in that if more stocks are growing in value, then the broad market should also be gaining in value. The opposite tends to hold as well. On May 15th, the ADL peaked and then rolled over indicating that more stocks were declining than gaining. However, during that same time, the S&P 500 diverged from that trend and continued to rise.

Bonds continued their rebound with the Aggregate index rising 0.95% for the month returning it just into positive territory for the quarter after a weak start to the quarter in April. Inflation data continued to moderate fueling speculation that the Federal Reserve would be more willing to initiate a cut in the Fed Funds Rate as early as September.

Corporate Earnings Growth Resumes

Short term treasury yields have remained higher than longer term yields delivering what is known as an inverted yield curve. The chart below shows the difference between the 10-year treasury yield and the 2-year treasury yield. The curve has now been inverted for 2 years, which has typically been a harbinger of slowing economic growth or a recession. Thus far, the U.S. economy has managed to avert a recession.

 

While the timing and magnitude of future Federal Reserve policy shifts remain uncertain, it is notable that the EU moved to lower their central bank rates in June. In an opposite move, the Bank of Japan increased rates for the first time in 17 years. The divergence of central bank policies is a healthy reversion to more normal environments after the necessity to work together in reaction to the global pandemic.

 

Consumer Resilience Waning

In reaction to the global pandemic over 3 years ago, the federal government provided both fiscal subsidies and monetary stimulus in an effort to prevent a massive economic disaster as the global economy came to a halt. Those subsidies, combined with a decline in consumer purchasing led to $2.1 Trillion of excess savings for individuals. Consumer spending has been exceptionally resilient in the face of higher inflation and rising interest rates largely due to the pent-up savings accumulated during the pandemic and is largely attributed for helping the economy stave off what seemed to be an unavoidable recession. That stimulus party seems to be slowing as the San Francisco Federal Reserve reports that excess savings has now been fully depleted.

A big question going forward will be whether consumers are able to maintain the same spending levels, which has helped to sustain the growth of the broader economy. A lot will likely be dependent on the job market. For the past few years, the job market has been exceptionally strong delivering 27 consecutive months of a below 4% jobless rate. Should a strong job market continue, it is likely to buoy confidence in consumers and promote continued spending, however, should the labor market soften, consumers may begin to rein in spending. While that could lead to slower economic growth, as measured by Gross Domestic Product (GDP), it would also likely encourage the Fed to act more quickly in lowering interest rates in search of a soft landing.

The Bottom Line

All-time highs in the stock market and strong gains in the bond market are always welcome news to investors. However, it is important to continue looking through the windshield and not just the rearview mirror as we prepare ourselves and our portfolios for what lies ahead. Corporate earnings continue to be positive with 78.3% of companies reporting earnings above analyst expectations according to the May 31st S&P 500 Earnings Scorecard.

The consumer has been the primary driver of GDP stability over the past few years and will likely continue to be a driving force moving forward. While there are some chinks in the armor appearing in the form of increasing credit card delinquencies and lower excess savings levels, the consumer has remained relatively resilient through the first half of 2024, though not quite as strong as 2023. The labor market will likely be a bellwether as to the continued strength of the consumer and will require close monitoring in the second half of the year.

Stock returns for the quarter were driven increasingly by a narrow set of stocks, masking the on average negative returns from the remaining components of the market. The divergence in returns is also increasing the weight of the mega cap technology stocks within cap-weighted indices like the S&P 500. This is likely to make future returns of those indices even more contingent on the returns of just a handful of stocks, and perhaps make those indices less indicative of broader market performance.

The second half of 2024 is likely to include some volatility as we enter the seasonally weaker months of August and September. Investor sentiment will likely be driven by the results and fallout from the French and UK elections as well as the U.S. presidential election in November Additionally, expectations around a shift in Federal Reserve policy to begin lowering interest rates will likely add to the short-term market fluctuations. With respect to constructing portfolios at Bison, we believe in preparing portfolios to weather the volatility storms, rather than trying to predict the market. As a result, we continue to construct portfolios with strategies that can offer lower volatility and uncorrelated risks that are associated with traditional stock and bond portfolios.