Still Waiting on the Fed
At the beginning of the year, investors were on the edge of their seats in anticipation about
learning when the Fed may move to cut interest rates. Not much has changed with that and we still
do not know when a rate cut may happen. What has changed is that the economic figures have been
persistently stronger than expected and the Fed’s indication of when they may start cutting rates
has lengthened. This is usually a negative for the stock market, but it has not materialized yet.
During the first quarter of 2024, the S&P 500 Index gained 10.2%, the NASDAQ Index gained 9.1%, the
Russell 2000 Growth Index gained 7.4%, and the iShares Barclays 7-10 yr. Treasury Bond ETF (IEF)
lost 1.8%.¹
This stellar performance by the large stock indexes in the quarter was a surprise, but they will
have an increasingly difficult time in continuing its path. Investors are walking a fine line
between expecting lower interest rates and higher corporate earnings. After the first quarter of
2024 ended on Thursday March 28th, due to the Good Friday and Easter weekend, Federal Reserve
Chairman Jerome Powell provided comments which indicated the latest personal consumption
expenditures (PCE) report did not undermine the central bank’s baseline outlook but said with the
economy on a “strong” footing, “that means we don’t need to be in a hurry to cut.”
On April 1st, bond yields surged, potentially stalling the stock market rally and initiating a
near- term correction. In the weeks prior to this announcement, many of the leading high-tech
stocks which led the rally were beginning to under participate which has been a cautionary signal
in the past. If a true stock market correction occurs, the severity may play out in the opposite
fashion it developed late last year.
As many remember, the fourth quarter of 2023 started off poorly until the October 30th release of
the U.S. Treasury Quarterly Refunding Announcement came in less than expected. This meant the
government appeared to need less in borrowings for their operations, which puts less upward
pressure on what interest rate they need to refund the debt. With this stumbling block resolved,
the stock market began to move higher. This move has been exacerbated by Fed communications with indications of rate cutting.
Investors have been drinking the rate cutting “Kool-Aid” and are ignoring that economy and labor
market statistics are working against near-term rate cuts. As I wrote in my last review, I expect
interest rate cuts to come slower than expected; recently Chairman Powell concurred.
There are too many pieces of the puzzle to provide an involved discussion of all the outcomes, but
I can warn that some of the most beloved companies trading at rich prices may be vulnerable for a
considerable fall. Insight into what can happen to even large well-established companies, like
Cisco Systems, during a market rout is good to reflect on.
In the late 1990’s when the internet was growing similarly as AI (artificial intelligence) is
today, Cisco was the out-sized leader in providing the hardware for building out the backbone of
the internet. They were making money hand over fist, the stock price was soaring, and all systems
were “go” for seemingly a long road ahead. That was until the dot-com internet bust in March of
2000 when the market peaked, and poor and good stocks dropped.
In the following graph, one can see the dramatic price story of Cisco Systems. The key takeaway is
that for a solid company with real products and earnings addressing a growing market, its stock
price basically went nowhere after its climatic run. Don’t drink the “Kool-Aid!”
In today’s AI driven market, there will most likely be stories like Cisco Systems from the 2000’s.
At that time, this scenario also played out with Microsoft, Intel, Oracle, and many other
established companies falling due to their rich prices and an unforeseen internet growth
trajectory.
Even attempting to prognosticate which area of the market to concentrate on is a difficult
exercise. In the following chart one can see that the returns for the top three S&P index sectors
for the past four quarters look random.
In my opinion, the way to succeed in investing whether it’s stocks, real estate, businesses, or for
that matter, almost anything, is to invest in something that is growing, is wanted in the future, and makes money, without overpaying for it.
Reiterating, in my view, the recession that I anticipated last year will occur this year. It is
impossible to determine the severity because there are many unknown factors, such as the timing,
the root cause, and the responses of the Fed, businesses, and consumers. The Fed tries to avoid
controversy in an election year, as it has done before, and will only change its policies if the
economy worsens significantly.
Here’s how I see things today:
Positives:
- US Consumer Sentiment: at highest level since July 2021 – the March index rose to 79.4.
- Consumers remain healthy as February spending rose a robust 0.8% on both goods and services.
- Money Market Fund Assets as of March 27ᵗʰ of $6.04 trillion remains at historic levels and
provide a backdrop of new assets which could enter or buoy the stock market.
Negatives:
- Gold and agricultural commodity prices are strong and may indicate inflation is not under
control. - The continued U.S. equity market’s rally places stocks as overvalued.
- The Fed waits too long before easing interest rates which may cause a larger economic slowdown
than expected. - Geopolitical unrest continues to be significant.
The markets may experience some near-term weakness and barring an unusually severe event, may
provide an opportune time to deploy more funds toward growth to combat the persistent inflation.
Very truly yours,
Martin L. Yokosawa
Torii® Asset Management, Inc. Landolt Securities, Inc.
9S040 Stearman Drive, Naperville, IL. 60564
Copyright Martin L. Yokosawa. All Rights Reserved
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