US Stocks Make Another All-Time High
What happened last week?
The three major US equity indices recorded new highs with the S&P 500, Dow, and Nasdaq up 2.29%, 1.97%, and 2.85%, respectively.
This is an unusually positive time for markets. Inflation is slowing while corporate profits are rebounding. The US Federal Reserve is proactively shifting policy to protect the US expansion.
In fact, the Fed forecasts three years of uninterrupted economic growth as it lowers its key policy rate from +/-5.25% to 3.1% by the end of 2026.
Tactically, during the past two years, we have been emphasizing sectors that are US-focused. This includes being overweight in assets like US Small and Mid-cap stocks (SMID) growth, Cybersecurity (through late February) and now US healthcare equipment.
3 Things to Know
Central Banks Spur Equity Market Gains
Many key central banks are beginning to shift policies in the same direction as the Fed’s expected path.
The Swiss National Bank was the first to cut interest rates last week.
The Bank of Japan, with its highly divergent approach of staying ultra-accommodative throughout the period of high inflation, has finally moved in the other direction. It has taken its policy rate above zero, albeit barely (+0.05%–0.10%).
For us, the most interesting aspect of the BoJ’s action is the ultra-mild impact it has had. Japanese government bond yields fell slightly, as did US Treasury yields.
US shares hit a new record high Thursday. The two more-dovish-than-expected central bank policy actions, along with Fed Chairman Powell’s steadfast comments that economic growth would not stop the US central bank from easing, helped boost equity markets.
The Bull Market Is Not Aging, It’s Broadening
It has been said that an aging bull market tends to “narrow out” as it reaches its peak. We see the opposite happening in markets today.
More US and global equities are breaking out of trading ranges, in line with our expectation that more sectors will post EPS gains in 2024 than in 2023.
Last year, about half of the S&P 500 sectors saw their EPS shrink. This year, nine of eleven are expected to post gains.
Just two years ago, financial markets were gripped in panic that the “easy money era was at an end.” Investors believed the post-pandemic economic recovery was as good as over. Doom and gloom for both stocks and bonds gave way to a robust market boom that is now broadening.
The now record-long period of yield curve inversion is producing no signs of an imminent recession. In this recovery, the shape of the yield curve has had little predictive value for employment or output growth.
We have seen many sectors suffer due to higher rates. With yields back at pre-2008 levels, housing market activity has suffered a sharp drop.
Even after a modest recovery, US existing home sales remain 34% below their COVID-era peak. Imports are just beginning to show net growth, while signs of a US industrial recovery are incipient.
To us, this looks like the end of a recessionary trough rather than an impending business cycle peak.
Diversification Can Be Beneficial
The Bloomberg Momentum Factor Index, which is long shares that have gained the most and short those that have weakened, is no longer rising.
We see this as a near-term risk for investors who are tempted to pile in for fear of missing out.
Short-term traders are apt to take profits in shares that have appreciated the most once those share prices stop rising. This trading pattern has little to do with fundamentals.
Our view is that with markets broadening, we should steer portfolios toward greater diversification. This seeks to mitigate risks while potentially benefiting from wider earnings gains across more sectors.
It may reduce volatility from momentum-driven share corrections. Even though Artificial Intelligence-related investment spending and demand for services is only in its early stages, the time for “chasing performance” in just a few stocks has passed.
The US equity market has risen from about a 50% share of the developed world’s market cap to 70% over the last 15 years.
While this may be sustainable, we are highly doubtful that the US will rise to 90% in the coming 15 years. If we are right, there may be benefits from boosting portfolio diversification both in the near term or the longer term.
See our weekly CIO Strategy Bulletin for more details