Highlights:
The benchmark 10-year Treasury yield rose sharply to over 4.5%, driving down the value of bonds.
Equity markets sold off as well, with the S&P 500 falling 4.8% in September.
Rate cuts have been removed from the Fed’s dot plot, further reinforcing the “higher for longer” narrative.
As we enter the final quarter of 2023, it’s worth looking back at the often calamitous times we’ve recently experienced. An unparalleled pandemic with its associated lockdowns and supply chain disruptions, the ensuing unprecedented fiscal stimulus shifting into persistent inflation which, in turn, resulted in the sharpest interest rate increases in Federal Reserve history. Two years ago, the Fed Funds rate was basically zero, now it is 5.3%. Two years ago, you could obtain a 30-year fixed mortgage for under 3%, now the national average is 7.8%. Over the past month the price of a barrel of oil spiked into the mid-90s, during the Covid crisis it had dropped below 30 dollars. Is it any wonder that in the wake of all this roiling the bond and stock markets continued to show signs of volatility and unpredictability?
In September, bonds experienced unusual price fluctuations as the benchmark 10-year Treasury yield rose just short of one-half percent in the month, rising through the third quarter from 3.85% to 4.57%. This spike drove down the value of bonds, with the aggregate bond index dipping -2.5% for the month, pushing the year-to-date return to -1.21%. The S&P 500® Index dropped -4.8% in September, bringing the year-to-date gain to 13.1%. As we’ve been noting throughout this year, the market continued its narrowness. Just 12 stocks have driven almost all of the S&P 500’s gains so far this year, with the remaining stocks in the Index nearly flat. In September, the only positive sector was Energy, up 4.5% behind the rising price of oil. Bond proxy Utilities and Real Estate were down big, -5.6% and -7.2% respectively. Technology also took a hit, down -6.9%.While it’s difficult to parse cause and effect in a market subject to so many unusual pressures, one factor weighing on stocks was the recognition that the Federal Reserve might best be taken at its word for projecting high rates for some time and may even boost rates another quarter point before year end. Federal Reserve members polled a consensus for just 50 basis points (.5%) of cuts in 2024, while market futures project 100 basis points of cuts. While the leading economic indicators showed mixed results and third quarter GDP growth is projected to be robust, evidence is growing for weakness in consumer spending, which has helped prop up economic numbers over the trailing years. The nation’s largest used car retailer surprised investors by showing a nearly 10% drop in year-over-year auto sales, while the low-end dollar retailers reported dipping earnings as consumers focused spending on low-margin essentials such as food. Meanwhile, credit card debt continued to climb.
In the end, the down month helped moderate extended stock valuations, with the forwarding-looking market price-to-earnings ratio dropping from 19.1x to 17.8x. We’ve been warning investors throughout this year that stock index gains have masked much of the underlying turmoil in the economy. We expect this too to moderate going forward.
In this month’s Q&A, Joe Maginot, Portfolio Manager and Analyst on the Large and Mid Cap team, shares his perspective on the equity market, the impact of artificial intelligence, where we are finding opportunities, and more.