Wealth Management — August 26, 2022
What Happened in the Markets?
- The S&P 500 fell 3.4% Friday to 4,058 as every sector experienced negative returns. This led the S&P 500 to post the largest weekly decrease since the middle of June, taking the index down 14.9% year to date.
- Today, at the economic policy symposium in Jackson Hole, Fed Chair Powell spoke of how the Federal Open Market Committee (FOMC) "must keep at it until the job is done" and that the September FOMC meeting may bring another "unusually large increase" in interest rates. He reiterated that while inflation readings may have peaked, the FOMC will not be complacent, but rather "forceful and rapid" in its efforts to return inflation to the two percent goal. Additionally, this morning, the July report of the Fed's preferred measure for inflation (Personal Consumption Expenditures (PCE)) was released in-line with expectations at 6.3% on a headline basis (compared to 6.8% in June). The FOMC describes its policy path as data-dependent, which is unlikely to change based on short-term readings.
- All 11 S&P 500 sectors ended the day lower. Energy (-1.1%) and Utilities (-1.5%) were the largest relative outperformers while Consumer Discretionary (-3.9%) and Information Technology (-4.3%) lagged.
- As of the 4pm equity market close, the 10-year Treasury yield was 3.03% and the 2-year yield was 3.38%. WTI oil closed near $93 per barrel, while gold dipped to $1,738 per ounce.
What to Watch Going Forward
- Monetary Policy: The message of Fed Chair Powell's "Monetary Policy and Price Stability" speech at the economic policy symposium in Jackson Hole, Wyoming, explained that, while price stability will take some time, the FOMC is committed to lowering inflation to the two percent goal. The FOMC is "taking forceful and rapid steps to moderate demand so that it comes into better alignment with supply, and to keep inflation expectations anchored." The committee "will keep at it until ... confident the job is done." Inflation readings have come down from the peak, but the FOMC requires additional data beyond one month to gain confidence of a potential path toward their 2% goal. Following Fed Chair Powell's comments at the Jackson Hole symposium, MS & Co. economists see an increased risk for a 75-basis-point hike at the September FOMC meeting. Nonetheless, the MS & Co. forecast remains a 50-basis-point hike at that meeting, followed by an additional 50-basis-point hike in November as well as a 25-basis-point hike in December to a peak rate of 3.625%. Regarding the balance sheet reduction program, which is anticipated to ramp through September, Fed Chair Powell previously communicated that the process to get back to equilibrium may take two to two-and-a-half years.
- Economic Calendar: Conference Board Consumer Confidence, JOLTS (8/30); Chicago PMI (8/31); Construction Spending, ISM Manufacturing (9/1); Employment Situation (9/2).
The Global Investment Committee’s Outlook
With the Fed poised to respond to 40-year highs in inflation through both rate hikes and balance sheet run-off in 2022, the GIC’s call for continued caution in the indices remains intact. Our June 2023 base case provides a target of 3,900 for the S&P 500. This scenario assumes earnings and revenue growth decelerates due to high cost pressures in a slowing growth environment. Our June 2023 bear case of 3,350 considers a slowdown in earnings growth rate, margin pressure, sticky inflation, and a recession. Our June 2023 bull case of 4,450 corresponds to a soft landing environment where earnings growth slows but remains positive, inflation decelerates, cost pressures ease, and confidence improves. This bull case forecast embeds an estimate of 17.9x forward June 2024E earnings. With earnings revisions moving lower off the prior peak, investors should focus on risk management through quality factor exposure, defensiveness with regard to interest rate sensitivity, and attention to stock-specific valuations. We are moving to a position of maximum diversification by sector and market cap, with interesting ideas in Energy, Industrials, Materials, Health Care, Consumer Services, Financials, Utilities and Staples. While the US recovery matures, we see opportunities outside the US as relatively more attractive, especially given less expensive valuations and exposure to economic cyclicality. In fixed income, the challenge is two-fold: generating sufficient income, while also preserving capital in a rising rate and higher inflation environment. This requires diversified and active exposure, with our preference for core investment grade, preferreds, leveraged loans, and asset-backed securities, including select mortgage-backed, and dividend-paying stocks. Real assets such as gold, infrastructure, and real estate present an attractive opportunity as a portfolio ballast for income generation and as an inflation hedge.
Market data provided by Bloomberg.
Dow Jones Industrial Average (DJIA): A price-weighted average of 30 blue-chip stocks that are generally the leaders in their industry.
NASDAQ Composite Index: A broad-based capitalization-weighted index of stocks in all three NASDAQ tiers: Global Select, Global Market and Capital Market.
S&P 500 Index: The Standard & Poor's (S&P) 500 Index tracks the performance of 500 widely held, large-capitalization US stocks.
US Trade-Weighted Dollar Index: A weighted average of the foreign exchange value of the 17US dollar against a subset of the broad index currencies that circulate widely outside the US.