LPL Financial - Jon Rienstra CRPC

As spring approaches and the weather warms, the U.S. economy has begun to cool. After a sizzling recovery from the pandemic, followed by a period of surprisingly solid and steady growth on the back of resilient consumer spending, the economy finally seems poised to downshift to its pre-pandemic trend near 2% growth. Recent confidence surveys suggest consumers may pull back some and jobs are a bit tougher to get. But consumers remain in good shape financially overall — particularly upper-income folks who drive most of the spending. In fact, the top 10% of income earners are now responsible for about half of all spending.

Slower growth may be good for stocks because it helps ease some of the inflation pressure and can pave the way for more Federal Reserve (Fed) rate cuts. We’re talking about a slight cooldown, not a collapse. Reaccelerating inflation is probably a bigger risk than recession, even after weak economic data last month. We’ll take our chances with a gradual slowdown from last year’s unsustainable pace near 3% growth.

Slower growth and easing inflation pressure will keep Fed rate cuts in play and prevent big up moves in interest rates that could weigh on stock and bond returns. With bond yields down this year but still attractive, 2025 is shaping up to be a good year for fixed income investors. Although stocks are off to a slow start on tariff concerns, cooling inflation and stable yields are key ingredients for the bull case.

Another key ingredient for the bull case for stocks is strong earnings. Corporate America delivered in the fourth quarter, as S&P 500 companies grew earnings per share by over 18% year over year. Although strategists’ expectations for double-digit earnings growth in 2025 may be too high, especially if tariffs stick and prompt more retaliation, the earnings outlook is good enough to support stock gains.

This year has brought new stock market leadership. The average “Magnificent Seven” stock — the largest seven technology companies — has fallen about 9% so far this year, while the average S&P 500 stock is up slightly. As some doubt the staying power of the artificial intelligence-fueled rally in the big tech stocks, others are finding opportunities rotating to other areas — the normal evolution of a maturing bull market.

Tariffs remain a near-term threat. Although exceptions, reductions, delays, or complete reversals may come, some tariffs will stick. Retaliation by trading partners will likely weigh on U.S. economic growth. Prices on some items will rise, as foreign producers and currency adjustments can only absorb so much, making the Fed’s job tougher. Expect some impact on importers’ profits in certain industries, such as autos, food and beverages, and certain segments of retail. But don’t expect tariffs to derail corporate America’s AI-driven earnings gains.

Expect a positive year for stocks on the back of steady growth in corporate profits, but likely with more bumps along the way as the economy slows and policy uncertainty remains elevated.

As always, please reach out to me with questions.

Call now to connect with business.

Finally! For the first time in more than four years, on September 18, the Federal Reserve (Fed) cut interest rates. While the debate over how big the cut would be was settled (a half point, not a quarter), questions about where the Fed will go from here and what it might mean for the economy and markets will continue.

The Fed matters, but let’s consider the possibility it’s been getting too much attention. Since the Fed’s announcement, the 10-year yield has risen, not fallen. This move reflects the fact that the bond market had already priced in an aggressive rate cutting cycle — one that may take the Fed’s target federal funds rate from its current 5% down to 3% by the end of 2025. Unless a recession drags rates lower, which we don’t expect anytime soon, the boost to the economy from lower borrowing costs (e.g., on mortgage rates, auto loans, etc.) may be mostly behind us.

Stocks also factor in rate cuts in advance. The S&P 500 stock market benchmark gained 24% during this latest Fed rate pause (from the last hike on July 27, 2023, until September 17, 2024). That marked the best stock performance during a Fed pause in at least 50 years, covering nine cutting cycles. But now that rate cuts have begun, history tells us more modest returns may be in store. On average, during the year after initial rate cuts, stocks produced only mid-single-digit returns.

The economy is the key to better potential returns. During the first year of a rate-cutting cycle accompanied by a growing economy, (e.g., no recession) stocks tend to generate above-average gains. The S&P 500 gained 14% on average during those 12-month periods. If a soft landing is achieved — perhaps more likely than not, but not assured — further gains for stocks could lie ahead.

Even if recession risk is low, policy risk is high with the November election just a month away. The uncertainty around policy outcomes has historically caused market volatility in the weeks leading up to elections. Stocks did just fine this September, gaining 2% during the historically weak month. The steady rise suggests markets are focused more on the still-growing economy, falling inflation, and rising corporate profits. However, with several trillion dollars of expiring tax cuts to be negotiated next year, unsustainable deficit spending as far as the eye can see, and tense trade relations with China, don’t be surprised if market volatility picks up — regardless of what happens on November 5.

The bull market will likely continue as the economy expands, but a pullback is likely overdue. Stocks reflect a lot of good news. The policy and geopolitical backdrops remain challenging. Job growth is slowing, and the cumulative effects of inflation have taken a toll.

As always, please reach out to me with questions.

April showers brought May flowers as markets placed greater importance on economic growth and corporate profits than the “higher for longer” interest rate messages from the Federal Reserve (Fed). In fact, the S&P 500 ended May above where it ended March. So, as you prepare for summer vacations, how much should you worry about your stock portfolios?

First, based on history, stocks tend to do just fine between Memorial Day and Labor Day, with the S&P 500 rising 1.8% on average between holidays with gains 70% of the time (source: Bespoke). Also consider stocks tend to do better the rest of the year when they rise in May, with an average June–December gain of 5.4% with positive returns 73% of the time. Seasonality is not particularly worrisome.

Investing involves much more than seasonality. Looking at the U.S. economy, slower growth in the first quarter of about 1.3% is expected to be followed by a slight pickup in the second quarter. Consumer spending did slow in April as inflation remains elevated and may slow further now that excess savings from the pandemic have generally been spent. However, business investment — particularly in artificial intelligence — is helping pick up the slack. The Fed’s preferred inflation measure held steady in April at 2.8% annually but is likely to come down further over the balance of the year as the economy slows and higher interest rates continue to impact big-ticket purchases.

Corporate America has done its part in keeping the stock market well-supported, even underneath elevated valuations. Earnings for S&P 500 companies in aggregate grew about 10% during the fourth quarter, excluding losses incurred by a Bristol Myers Squibb acquisition. Guidance was mostly upbeat. Some retailers, such as Walmart and Target, even announced price cuts, helping fight inflation.

Political uncertainty has ratcheted higher following former President Donald Trump’s conviction. The potential market impact of the election is extremely difficult to predict, but we do know the differentiation between Trump and President Biden is widest in foreign policy, immigration, regulation, taxes, and trade, so stocks tied to those issues could see big swings. We also know from history that volatility tends to pick up in the early fall before rallying after the results, and that the economy is usually the deciding factor, so watch inflation, employment, and consumer confidence closely.

We continue to follow global headlines. The possibility of China’s military aggression toward Taiwan remains perhaps the biggest potential geopolitical shock to the global economy, given Taiwan’s strategic importance to global semiconductor production. Tariff increases are likely no matter who wins in November. Finally, we cannot dismiss potential oil shocks as the war in the Middle East rages. These risks seem manageable for the diversified global economy and financial markets at this point.

As always, please reach out to me with questions.

After a strong first quarter for stocks, some April showers rained down as the S&P 500 fell about 4% last month. Hopefully those showers will bring some flowers in May, despite the widely cited stock market adage, “Sell in May and go away.” There is some merit to this old adage because the S&P 500’s best six-month returns have, on average, come from November through April, and its worst between May and October (recall bear markets often end in October). Still, historically the index has gained an average of 1.8% from May through October — hardly worth avoiding.

While stocks have delivered solid gains this year, the steady growth of the U.S. economy alongside rising corporate profits increase the chances of more gains ahead. Last week’s data on gross domestic product looked soft on the surface, as the U.S. economy grew just 1.6% in the first quarter. But inventories and trade masked strong underlying consumer and business demand. Consumer spending rose at a solid 2.5% pace, while capital investment rose 2.9%. Economists looking for a slowdown keep asking: are we there yet? The economy may slow later this year, but we’re not there yet.

So, what caused stocks to dip? Beyond some digestion of strong gains through March, stubborn inflation and higher interest rates were the main culprits. As the downtrend in inflation has stalled recently, expectations for the start of the Federal Reserve’s rate-cutting campaign have been pushed out. With the Fed’s preferred inflation measure stuck near 3%, markets now expect one, or possibly two rate cuts this year, down from near six at the start of the year. Expect inflation to ease later this year as demand likely slows, but patience will be required.

If you’re concerned about a bigger slide, the numbers during corporate earnings season — now more than half complete — may be reassuring. A solid 80% of S&P 500 companies have beaten earnings estimates so far this quarter, with more than 8% average upside relative to estimates. Results from the big technology companies have mostly exceeded high expectations. And perhaps the most important earnings measuring stick, estimates have moved higher and provide evidence of upbeat guidance from corporate managements.

With the economy growing steadily and corporate profits rising, the near-term outlook for stocks still looks supportive. As always, there will be rainy days. Sticky inflation remains a thorn in the market’s side and geopolitics are a potential stumbling block. But for markets, expect more flowers than showers in May and potentially beyond.

As always, please reach out to me with questions.

Call now to connect with business.

Stocks are off to a solid start in 2024. January gains are particularly enjoyable because of the old adage from the Stock Trader’s Almanac, “As goes January, so goes the year.” Nearly 75 years of historical data shows that when the S&P 500 has risen in January, the average gain for the remainder of the year has been about 12%. This January, the S&P 500 was up 1.6%.

Stocks have also historically fared well after the broad index has reached a new all-time high, as the S&P 500 did last month for the first time in over two years. The average 12-month gain after a new high, with more than a 12-month wait between those highs, has been nearly 12%, with gains 13 out of 14 times.

Those new highs have prompted some to wonder if stock valuations are too rich. They’re elevated, no doubt, but they still look reasonable considering today’s interest rates. Interest rates and price-to-earnings ratios tend to move in opposite directions when rates are elevated. Big tech companies, like Alphabet, Meta, and Microsoft, are another justification for high valuations. Their impressive earnings power is the reason why earnings growth is poised to accelerate and should help prevent valuations from getting too stretched.

A soft landing for the U.S. economy, though not assured, may also help push stocks higher despite full valuations — assuming inflation continues to ease. The job market remained surprisingly strong in January, adding over 350,000 jobs as wages rose. Although that could possibly contribute to a delay in Federal Reserve (Fed) rate cuts until summertime, markets may have adjusted to fewer cuts already. Good news may be good news.

We see a lot of merit in the bull case, but the bears have plenty to support their case as stocks attempt to continue to climb the proverbial “wall of worry” and build on year-to-date gains. Presidential elections bring uncertainty, which may add some volatility even though stocks usually rise during election years. Commercial real estate continues to plague some regional banks.

A treacherous geopolitical climate cannot be dismissed, particularly a potentially wider conflict in the Middle East. Shipping goods around the world is taking longer and costing more. Military aggression by China toward Taiwan cannot be ruled out, nor can some spillover from China’s soft economy.

In reviewing the full picture of what to expect from markets this year, a resilient U.S. economy, easing inflation pressure, and growing earnings create a favorable backdrop for both stocks and bonds. But with high valuations and mounting geopolitical risks, modest positive returns appear most likely.

As always, please reach out to me with questions.