Market Essentials | June 3, 2024 edition

Well, summer’s here. In equity markets there’s a season for everything, and I now believe we’re at the point where we need to turn our attention firmly to summer performance seasonality and the elections. I don’t think the U.S. Federal Reserve (Fed) will be cutting rates before the election. The only reason I see for them to cut rates before the election is if we have a significant sell off in the equity market, down 10% or more, or perhaps a really bad jobs number, but, absent these, they would be right to wait in my view. To cut now could re-raise the accusation of acting politically, and I think we’ll all be in a better position to gauge the future fiscal situation after the result is known. 

So, if the Fed won’t be your friend this summer, how about earnings?

Well, we’re done with the latest bout of earnings releases, and what we really learned is that the Great Eight were able to deliver significant earnings growth in the first quarter, at around 55%, while the “other 492” languished at just 3%. So that provided around 10% of year-on-year earnings growth in total, but you can really see the bifurcated way that was delivered. The story is that things are great at those specific companies (really just big artificial intelligence related tech, not even information technology as a whole), but not elsewhere. 

“Earnings season” to "worry season"

That said, I now think we will move from “earnings season” to “worry season.” Let me explain because there are still several moving parts. Firstly, the yield on the ten-year Treasury note has stabilized, and that’s a good thing, but the yield on the two-year Treasury note is still not far from 5%, and I think that, with the Fed rightly taking their time to squeeze out any remaining residual inflation risks, investors may  want to park some money there in the short term and wait out the elections. I still believe we could see 4,800 in the S&P 500 before polling day. And that’s my second point, the conventions could be very interesting, with both parties still able to potentially consider other candidates. I don’t think this will be a “feel good” summer politically at home, but the result should indicate a plan for addressing the deficit – how the election plays out, and the need to see it play out, could be critical in providing the clarity we need to forge ahead from here. I am sorry, but the only upside I see this summer is working on your tan! 

My final concern

My final concern is that the broadening of the rally that we saw back in February and March, has really petered out. Financials, Utilities and certain Industrials have been and are still somewhat of a bright spot, their valuations are mostly fine, and I think Utilities earnings growth could outstrip that of the other 492, but the old adage of “sell in May and come back after Labor Day” does seem pretty applicable at the moment. I think we see a soft summer, and then some heightened volatility into September and October as we approach the election. 

Positioning

Some last thoughts on positioning. I already mentioned the fixed income component, where I think the short end remains attractive. We have added to Europe in our internal allocations, and remain overweight in Japan, taking that from the small cap position. Japan is well positioned in our view to many scenarios, including adverse geopolitical ones. We are slightly underweight the S&P 500 now, and really warning up to some foreign regions and names. 

Despite my concerns, enjoy the summer, and perhaps take a chance to relax and catch your breath before we throw ourselves into the election cycle. 

– David