Investment Insights 

 — Steve Orr 

493

November is in the books; onward to the Santa rally — or so Wall Street Bulls hope. Digging into the returns history, a big November does not rule out gains in December. November’s returns were the best for stocks since July of 2022. The month just past saw the S&P 500 post its fourth best month in the past 10 years. Only April and November 2020’s stimulus fueled 10%+ and July 2022’s 9.1% gains were better.

Santa may be here early as every asset class moved higher last week. When stocks and bonds are moving higher with momentum, stand aside and let them rip. Toward the end of last week our momentum indicators slowed, suggesting the next couple of weeks should see some backing and filling by the major stock indices and bonds (yields rising slightly).

One note of encouragement is that the “other 493” names in the S&P 500 finally outperformed the “Magnificent 7” last week. The 2% performance difference is not much to write home about considering the Russell 1000 Growth index is ahead of its Value counterpart this year by 28%. Large cap Growth is beating Value 35% vs 6.5% through last Friday. That rare spread between Growth and Value style performance is understandable when one considers the Mag 7 are up 93% this year.  

Powell push

Last Friday Fed Chairman Powell signaled that the FOMC would likely leave short-term rates unchanged at the upcoming December meeting. In a speech at Spelman College, the chair stated that “…the FOMC is moving forward carefully, as the risks of under- and over-tightening are becoming more balanced.” Translation: we can afford to pause and let the last several rate increases work their way through the economy. Powell added that the Committee is “prepared to tighten policy further if it becomes appropriate.” Translation: we will raise rates again if inflation stops going down and unemployment drops. The Richmond Fed’s Barkin and Fed Governor Bowman repeated the same line: that additional increases are possible if inflation sticks around.

Earlier in the week, Fed Governor Waller acknowledged that rate cuts would be possible if inflation continues to fall. Translation: none needed. If inflation approaches the Fed’s 2% goal, it would be smart to cut rates because there is a high likelihood that inflation would overshoot much lower below the 2% target. The key for our account statements is that Wall Street was looking for a stronger inflation stance from Powell. If you will, a rebuttal to Waller such as “we are not done yet.” When Powell stated the risks are more balanced, Wall Street took that as a signal that the Fed is finished raising. And what comes next? The Fed cutting rates of course! Ergo, buy everything! Powell likely intended just the opposite — slow the rate snowball pushing rates lower — but got run over by the bond rally sleigh.

We take the Fed at its word; nothing changes until December 13, when the Committee’s projections are updated. Markets, on the other hand, are now positioning for at least a 1% rate cut over the course of 2024. That change in psychology also pushed bond prices higher over the last six weeks. Recall in mid-October, traders were preparing for a +5% 10-year Treasury yield and a possible Fed rate increase in January. Fed speakers, inflation readings flat and pump prices lower have swung bond sentiment to very positive extremes.

We think bonds back up a couple of tenths in yield after coming down eight tenths of one percent in the last six weeks. That is historically a very large move. Lower rates do make financial conditions for companies and consumers a bit easier, especially in home mortgages. Some of the move is short covering from fast money. But we do think a portion of the recent  drop in market yields is justified by the slowing economy. 

Slower

Most developed countries have flat to negative GDP growth over the last couple of quarters. The U.S. has been spared some of the slowdown pain thanks to the Administration gaming markets by drawing down oil from the SPR, spending by Congress and the Bank Term Funding Program.

None of those fiscal policy tools can last forever. The SPR is, by geological standards, empty. Congressional spending ramps back up next year as the “Inflation Reduction Act” construction spending kicks in. Perhaps Chairman Powell will reveal a plan for the Bank Term program in the December press conference. Those Silicon Valley deposit crisis loans start coming due March 11.