The economy so far in 2024 has proven to be stronger than many people expected, thus helping to drive the markets to new all-time highs. This year has been the best start to a presidential election year on record for the S&P 500. Historically, stock momentum has continued in election years after a positive start. The S&P 500 is up 15.3% half-way through the year. Large cap stocks have outperformed other areas in the markets including small- and mid- cap and international stocks. Growth stocks have continued to outperform value-oriented ones. Small cap stocks typically do well during times of declining interest rates as many small cap companies are interest rate sensitive given their higher debt loads. Compared to large cap stocks, small cap stocks are currently the cheapest in terms of valuations since the dot-com bubble (almost 25 years).
The Federal Reserve has been holding rates steady until inflation falls a little further. The outlook for interest rates has dramatically changed since the beginning of this year as inflation has been much stickier than anticipated. Going into 2024, investor expectations were for the Federal Reserve to potentially cut rates 6 to 7 times. The Federal Reserve announced in their June meeting that they would hold interest rates steady and indicated that only one rate cut is coming this year (with several more rate cuts coming in 2025). Inflation eased in May which increases the odds of a rate cut later this year. If inflation continues to moderate, it’s likely that the Fed will gradually lower rates over the next couple of years.
Bonds continue to offer more attractive yields than they’ve had in many years, and we believe that now is a good time to lock in yields. The 10-year US Treasury began the year at about 3.95% and was at 4.3% as of June 28th. The Bloomberg US Aggregate Bond Index (high quality core bonds) is down 0.7% through mid-year (bond prices decline as yields increase). Historically, bond performance has been better in the back half of the year of similar years following negative starts.
The global economy has held up well so far this year and has been resilient in the face of geopolitical events. Although the economy is showing signs of slowing (especially among lower-income consumers), many economists expect the US to avoid a recession in the near term. Inflation has clearly had a more pronounced effect on lower income consumers compared to higher income households. If inflation were to stay more stubborn than expected, interest rates could stay higher for longer. As the year progresses, the focus will likely shift to the upcoming election. Historically speaking, markets have been positive, on average, during election years, regardless of the political outcome. Stocks have performed well under both the Biden and Trump presidencies. The markets are more focused on the overall path of the economy than who is in office. It’s important to focus on what you can control as a long-term investor and maintain globally diversified portfolios to help mitigate market volatility.
Regardless of who wins the Presidency in November, it’s likely that higher taxes will be needed in the future to reduce the Federal debt. Tax efficiency will likely become even more important on both the investment portfolio side (i.e., utilizing a tax efficient investment strategy including ETFs and municipal bonds where appropriate) and with overall tax strategy. In our August newsletter, we will discuss tax planning in more detail.
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