Mid-2024 Market Review and Outlook

By Osborn Williams & Donohoe on August 1, 2024

First Half of 2024

Many evolving factors have been at play across financial markets in the first half of 2024. The S&P 500 was up 15.29% and the 10-year Treasury yield up 12.67%, with inflation, earnings and the Federal Reserve in focus. Inflation has fallen to 3% y/y in June 2024; down significantly from a peak of 9.1% y/y in June 2022. The labor market remains balanced with 4.1% unemployment and elevated monthly nonfarm payrolls.¹

The artificial intelligence (AI) race has been driving equity markets as companies invest in new technologies to advance capabilities ahead of competition. Technology and communication services outperformed across sectors, with gains concentrated in a handful of massive companies that have been the largest investors in AI thus far. Only 24% of stocks in the S&P 500 outperformed the index in the first half, and about 40% of S&P 500 stocks were down. The equal-weight S&P 500, which is a proxy for the average stock, is only up around 5% this year.²

U.S. GDP is expected to grow between 2-3% this year. The first half of the year saw rising bond yields, reflecting a reduced likelihood of rate cuts and the resilience of the economy, fueled in part by persistent fiscal spending.

The Federal Reserve Holds, Yields Higher in 2024

The Federal Reserve continues to be in the spotlight this year. The committee is keeping its policy rate steady at 5.25-5.50%, and the group’s median estimate is now for one rate cut in 2024.

The last time the Federal Reserve adjusted the fed funds rate was July 2023, when it enacted a 25 basis point hike. Their next move remains a top conversation in financial markets.

The longest pause in fed funds rate adjustments took place from June 2006 to September 2007 – lasting 446 days with the S&P 500 returning 22.1%.³ The current pause started July 26, 2023 and has lasted 370 days and counting with the S&P 500 up 20.85%.⁴ If they wait until November to cut, it would be the longest pause of all time.

Amid the current pause, treasury yields trended lower in late 2023 and higher in 2024.The Federal Reserve changed its language from previously stating it saw a “lack of further progress” on inflation to now saying it has made “moderate further progress” towards its 2% goal. Inflation is clearly a big challenge once it surfaces.

Inflation Slowing and Economy Keeps Growing

Inflation data remained steady during the first half, within a range 3.1-3.5% y/y. Services, particularly shelter, persists as an upward driver, keeping the consumer price index (CPI) above the Federal Reserve’s 2% target. The Federal Reserve’s preferred inflation measure, the personal consumption expenditure (PCE), came in at 2.6% y/y in June.⁵

Inflation is well below its high of this cycle, 9.1% y/y in June 2022, but has appeared sticky around 3%. Strong economic and job growth is contributing to consumer resilience. Initial jobless claims are hovering around 242,000; well-below the 373,000 ten-year average.

A recent Gallup poll showed that inflation is the number one concern for Americans.⁶ Inflation data has continued trending downward, and we are watching for a further decline going into the second half of the year, with the Federal Reserve expecting core PCE to be between 2.7-2.8% by the end of 2024.

Inflation Has Fallen Drastically From Summer 2022, Closer to the Fed’s Preferred Long-Term 2% Goal⁷

Markets Rationalize the Current Environment

In the first half, markets weighed lower inflation, solid economic expansion, 6% first quarter earnings growth, international conflict and a patient Federal Reserve. The takeaway has been strong equity performance, with markets up 15%.

AI/technology trades have been the main tailwinds for markets. Growth and momentum were the winners of the first half; the Russell 1000 growth index was up 20%, while the Russell 1000 Value index was up 5%. The market-cap weighted S&P 500 index outperformed the equal-weight index by over 10% in the first half, as heavily-weighted technology positions fueled the rally.⁸

As a result, communication services and technology have been the top-performing sectors, up about 19% and 18% in the first half, respectively. Technology was up nearly 9% in the second quarter alone.⁹

Cyclical parts of the economy, industrials, materials and energy, lagged in the second quarter. Energy was a top-performing sector in the first quarter and was one of the worst-performing in the second quarter.¹⁰

Communication Services and Technology Lead All Sectors in the First Half, Real Estate the Only Negative Sector¹¹

Second Half of 2024

The Federal Reserve’s decisions will be in focus for the second half of the year. Investors are looking for interest rate cuts during the September, November or December meeting. It is unlikely that one or two 25 basis point cuts will have a meaningful impact on markets.

Earnings growth is expected to broaden out from technology and the commonly referenced “Magnificent 7” stocks. The S&P 500 excluding the Mag 7 is estimated to see greater earnings growth by the fourth quarter relative to the Mag 7.¹²

Further economic data will be in focus for the second half. As the “higher-for-longer” interest rate narrative weighs on businesses and consumers, markets will watch for any deterioration in consumer data and credit conditions.

The 2024 U.S. presidential election will be the main headline into late fall. Presidential elections bode well for stocks, and the historical data shows that the best decision is to stay invested through election years.

Earnings to Broaden

Earnings grew 6% y/y in the first quarter, led by the communication services sector up 34% y/y. The technology sector alone accounted for 80% of S&P 500 earnings growth in the first quarter. In the second quarter, earnings are estimated to grow 9% y/y, once again led by technology and communication services. Energy and health care had the worst first quarter earnings amongst all sectors (-25.9% and -25.4%) and are expected to see earnings growth of 10% and 16% y/y in the second quarter.¹³

The “Magnificent 7” stocks realized net income growth of 52% y/y in the first quarter. By fourth quarter, the Mag 7’s net income growth is expected to be 15% y/y, relative to the S&P 500 excluding Mag 7 net income growth of 13% y/y.¹⁴

We believe full-year earnings growth of 8-10% is realistic in 2024 for the broader market. Through the second half of this year, earnings growth is likely to broaden away from tech and communication into other sectors. AI trends in sectors such as industrials, utilities, materials and energy through increased energy use, storage and infrastructure buildout will provide momentum for these sectors.

Rate Cuts Ahead

We believe rate cuts will likely be due to slowing inflation, not slowing growth. The economy has withstood higher rates and continues to prove resilient. If the Fed can successfully bring inflation to 2% without cracking the economy, lower interest rates may be supportive for equity prices.

Investors are looking to September for the first rate cut. Our team does not see the necessity for the Fed to move its policy rate lower this year: Growth has been steady, and inflation is slowly declining, but sticky. With inflation still near 3%, a cut too soon by the Fed increases the likelihood of inflation returning.

Regardless, interest rate cuts are on the horizon. Markets are aware that easier financial conditions are on the way and will be supportive of profits, capital investment and growth. However, caution is warranted as cuts this year will not enhance the economic environment and banking on cuts to spur a rally in risk assets may be dangerous thinking as policy normalizes.

2024 Election: Fear Not

The biggest event in the second half of the year is no other than the 2024 presidential election. Election uncertainty may spark uncertainty in some, 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%).¹⁵

Presidential 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%.

Staying invested through presidential cycles provides long-term investment appreciation. $1,000 invested into the S&P 500 in 1953 is worth $1,690,000 today. Only investing during a Republican president would be worth $27,400, and only investing during a Democratic president would be worth $61,800.¹⁶

Looking at the historical data, empirical evidence shows that maintaining allocations in diversified portfolios is the most probable way to increase total returns. Focus on the investment horizon and work to put fears aside.

In Presidential Re-Election Years Since 1944, the S&P 500 has Averaged a 15.8% Return¹⁷

What to Watch in the Second Half

Inflation near 3% has the Federal Reserve in a predicament: cut too soon and inflation returns or cut too late and push the U.S. into a recession. Economic data in the first half of the year was balanced but is beginning to move closer to longer-term trends. The Federal Reserve is unlikely to make major policy adjustments this year, and like the Fed, we are watching the data.

With many factors at play in the second half of the year, diversified actively managed portfolios are best equipped for unexpected volatility. AI trends will continue and those that are fastest in adopting the new technologies stand to benefit.

The equal-weight S&P 500 has underperformed the market-cap weighted index by 20% over the last two years. The influence of mega-cap tech has provided elevated returns in 2024, especially in the second quarter. Given this divergence, a shift to more cyclical, value-oriented sectors may be seen in the second half of this year.

Trends can last longer than anyone expects. We are attuned to the exciting growth potential of AI but remain firm in our belief that valuations and fundamentals matter over the long run. History shows that periods of high market concentration are not sustainable. For the stock market to continue its winning streak, broader participation beyond just the mega-cap stocks is needed. Capital stewardship is our priority, and we believe that is best accomplished by committing to a disciplined investment approach. As we enter a historically volatile time of the year in markets, we see opportunities in a variety of equity sectors as well as the fixed income market. With interest rates set to go lower, we expect dividend payers will benefit due to cheap valuations with appreciation potential and strong relative income yields to bonds. We continue to think long-term and favor high-quality companies with strong free cash flow, attractive valuations and dividend growth opportunities.

Equal-weight S&P 500 Underperforming the Market-cap Weighted Index by 20% Over the Last Two Years¹⁸

Return for selected indices¹⁹

All of us at Osborn Williams and Donohoe thank you for your continued trust and confidence. We welcome any opportunity to be of assistance to you and your family members.

¹ Source: FactSet. As of June 28, 2024.
² Source: FactSet. As of June 28, 2024.
³Source: Morningstar. As of May 8, 2024.
⁴Source: FactSet. As of July 30, 2024.
⁵Source: FactSet. As of July 26, 2024.
⁶Source: Gallup. As of March 29, 2024.
⁷Source: FactSet. As of June 28, 2024.
⁸Source: FactSet. As of June 28, 2024.
⁹Source: FactSet. As of June 28, 2024.
¹⁰Source: FactSet. As of June 28, 2024.
¹¹Source: FactSet. As of June 28, 2024.
¹²Source: Strategas. As of June 3, 2024.
¹³Source: FactSet. As of June 18, 2024.
¹⁴Source: Strategas. As of June 3, 2024.
¹⁵Source: FactSet. As of June 20, 2024.
¹⁶Source: Bespoke Investment Group. As of May 2024.
¹⁷Source: Strategas. As of May 2024.
¹⁸Source: FactSet. As of June 24, 2024.
¹⁹Source: Bloomberg. As of July 29, 2024.