Inflation & the Federal Reserve
At their June meeting, the Federal Reserve continued to hold rates at 5.25-5.5%, a position it has held since July 2023. The Fed is holding firm to its inflation objective of around 2%. The Fed’s preferred measure of inflation is the Personal Consumption Expenditures (PCE) Index excluding food and energy. In May, annualized inflation came in at 2.6%, down from 2.8% in April. Unemployment, another metric under consideration, remained at a healthy 4.1% in June, up 0.1% from the prior quarter.
As of the Fed’s June 2024 meeting, it was forecasting one rate cut this year; market consensus holds open the possibility of a second cut in December. The Fed’s forecast holds open the possibility of four cuts in 2025, more than the three cuts anticipated in earlier meetings.
Economic Growth & The Consumer
The U.S. economy rose at an annualized pace of 1.4% in the first quarter, a significant slowing from the last quarter of 2023, in which GDP rose by 3.4%. The first quarter number reflected decreases in consumer spending, exports, state and local government spending, and federal government spending. Gains in residential fixed investment and imports partially offset these decreases.
As mentioned above, the Fed’s preferred inflation measure, PCE excluding food and energy, declined slightly from one year ago. The price of goods dropped 0.1%, while the cost of services increased by 3.9%.
The Surveys of Consumers from the University of Michigan gauges consumer sentiment on personal finances and the general economy's short- and long-term health. July’s report showed that consumer sentiment was down 7.7% from one year ago. While inflation expectations are moderating, consumer sentiment on economic health declined 16.2% over one year ago as the election cycle focused more attention on personal and government finances.
Fixed Income Markets
The Bloomberg U.S. Aggregate Bond Index returned just 0.1% for the second quarter. Cash and High Yield debt had the best returns, up 1.4% and 1.2%, respectively. Developed International Bonds, Long Government/Credit, and Investment Grade Corporates declined, down 3.9%, 1.7%, and 0.1%, respectively.
The yield curve has flattened somewhat from one year ago but remains moderately inverted, with the yield on two-year Treasuries at 4.7% and the 30-year yield at 4.5%. The ten-year Treasury yield was 4.4%. Yields continue to move in anticipation of Fed interest rate moves.
Equities Markets
The S&P 500® Index was up 4.3% for the quarter, and the one-year return was up strong at 24.6%. Positive returns in the second quarter came from just five of the 11 sectors: Information Technology led returns, up 13.8%, and Communication Services came in second, posting a return of 9.4%. Six sectors posted negative returns, with Materials down the most at -4.5%. Led by large-cap technology stocks, large-cap growth saw the best return among the asset classes in the second quarter, up 8.3%. Small value posted the worst return at -3.6%.
Returns by Sector are represented by the S&P 500® Index sector total return indices.
Index concentration continues to be a major story. The top ten stocks of the S&P 500® Index had a combined weight comprising approximately one-third of the index on a cap-weighted basis. The top 10 companies in the index returned an average of 14.3%, besting the index return by 10%. Berkshire Hathaway and Meta were the only laggards, underperforming the index by 7.6% and 0.3%, respectively. NVIDIA, 5.7% of the index, continued to lead the broad market, up 36.7% in the second quarter.
Emerging Markets (EM) outperformed U.S. Equity and Developed International Equities in the second quarter, posting a return of 5.1%. The MSCI All Country World ex-U.S.A. Index, which includes emerging markets, returned 1.2%. The MSCI World ex-U.S.A. Index, which excludes emerging markets, posted a return of -0.4%. Among EM economies, Asia posted the highest return, up 7.5%, and EM Latin America underperformed by 12%. Japan posted a return of -4.2%, lagging other Developed International regional markets.
Outlook
The Fed has maintained higher interest rates. Employment remains strong, and inflation, while moderating, has not yet reached the Fed’s preferred level. As of the June meeting, the Fed forecasts one rate cut in the second half of 2024; market consensus holds open the possibility of a second cut in December. The Fed is open to the possibility of further rate cuts in 2025. The Fed’s next meeting begins July 30.
Many consumers have a negative view of finances and the economy, as outlined in the University of Michigan’s Surveys of Consumers. Consumer outcomes have been mixed as the consumer saw higher inflation than average wage growth, and housing affordability declined. However, the consumer is still in a strong financial position, with $0.8 trillion in excess savings remaining after the stimulus bumps of 2020-2021. Household debt as a percentage of income is at 9.8%; while rising, it is still below pre-pandemic levels.
Market index concentration has increased as the weight of the top 10 companies in the S&P 500® Index increased to 37%. However, the performance of 2023’s market leaders, the Magnificent Seven, has seen some dispersion in the quarter. NVIDIA outperformed the broad market by 32.5%, and Meta’s growth slowed, lagging the S&P 500® by 0.3%, as last year’s excitement about the possibilities of artificial intelligence (AI) moderates.
Election years can be volatile as markets and consumer sentiment swing on potential outcomes; however, elections have historically had little impact on subsequent market returns.
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