The Market Reflects a Resilient Economy

By Paul Broughton, Portfolio Manager

Is the stock market ahead of itself year-to-date as we’re about to enter the historically difficult month of September?  Or, is it reasonably priced and reflective of an economy that just keeps on proving its resilience?  We’ll examine both questions.  To let the cat out of the bag, we conclude that the market remains on solid footing overall.

The S&P 500 has had a good year through mid-August, up 16%.  And this is for good reason.  The economy accelerated in the second quarter and was surprisingly strong relative to expectations.  Unemployment remains remarkably low and is near historic lows.  As well, we continue to see consumers willingly spend on experiences, as witnessed by the economic whirlwind Taylor Swift concerts and the “Barbenheimer” movies.  Leading the way for the S&P are names like NVIDIA, Meta, Carnival, and Royal Caribbean – these names capture the themes of investors continuing to love the mega-cap technology stocks and consumers willing to spend on experiences relative to physical things.  One could also say that this strong YTD performance in equities is due to the likelihood of a “soft landing” or “no landing,” despite rates having increased at the fastest pace in over forty years.   

Further proving this economic resilience, the market has climbed the proverbial wall of worry by overcoming fears of high inflation, lower corporate earnings, a slowing economy, and a pending recession—fears that have been ever-present and well documented.  And we also had the banking crisis in the spring and then the U.S. debt ceiling fight.  That’s a lot of heavy lifting done by the market to deliver a strong showing so far this year.  With the multiple on the market at 19.5x and the VIX below historical averages, the market isn’t cheap, but it isn’t overly expensive either. 

Interest rates remain high, however, and have been trending higher over the last four months.  This is indicated by the healthy direction of the economy mentioned above.  The 2yr Treasury has increased by over 100 bps and the 10yr note by over 80 bps.  This means mortgages, credit card debt, car loans, etc. have gotten more expensive and will start to weigh on the consumer and the economy in the months ahead.  As well, with bonds yielding over 4% and money markets and T-Bills over 5%, it is less attractive to hold equities relative to cash or bonds.  Some market participants fear that the full impact on the economy of the Fed Funds rate at its highest level in 22 years has yet to materialize. Furthermore, more interest rate hikes may be necessary to bring inflation down to the Fed’s preferred 2% level.  However, at present Fed Funds futures do not show that investors are expecting another hike on the horizon.

This past week the NY Fed released data that showed credit card balances increased by nearly 5% in the second quarter.  The more attention-grabbing but less significant headline reported that overall credit card debt reached over $1 trillion for the first time ever.  To be fair, though, household debt as a percentage of disposable personal income is still below pre-Covid levels and is in good shape overall.  The point here is that consumers are starting to rely on credit card debt more than in the last couple of years when fiscal stimulus was abundant.  Also, it’s worth noting that crude oil prices have increased by over 20% since mid-June and gasoline prices have been trending higher since early July.  And student debt repayments resume in October.  So, at the margin this means less discretionary money in consumers’ wallets as we head into the fall. 

All of this said, the market knows these things and yet it continues to show its tenacity.  September is historically the weakest month of the year and it may test the market’s optimistic outlook.  And one could argue that the strong performance YTD in the market is a relief rally that a recession has been averted – that remains to be seen.  But this market appears reasonably priced given the overall health of the economy. 

The foregoing content reflects the opinions of Advisors Capital Management, LLC and is subject to change at any time without notice. Content provided herein is for informational purposes only and should not be used or construed as investment advice or a recommendation regarding the purchase or sale of any security. There is no guarantee that the statements, opinions or forecasts provided herein will prove to be correct. Past performance may not be indicative of future results. Indices are not available for direct investment. Any investor who attempts to mimic the performance of an index would incur fees and expenses which would reduce returns. Securities investing involves risk, including the potential for loss of principal. There is no assurance that any investment plan or strategy will be successful.