The Jackson Hole Economic Symposium was last week’s main event, with investors focused on Fed Chair Jerome Powell’s Friday speech as an indicator of near-term monetary policy. Powell struck a hawkish tone as he continued to emphasize that inflation remains too high for the committee’s liking, and that additional policy tightening may still be warranted. An unexpected (albeit mild) increase in inflation expectations in the final August release of the University of Michigan’s Consumer Sentiment survey lent credence to Powell’s determined inflation-fighting stance.
Otherwise, macro data released last week was mixed. Existing home sales (-2.2% m/m) remain muted thanks to affordability issues and low inventory, both caused by high mortgage rates. Several regional Fed activity surveys (Philly, Richmond, and KC) remain near or in contraction territory. S&P’s US Composite PMI fell to 50.4, a third straight decline led once again by weakness in manufacturing. On the flip side, durable goods ex-aircraft came in ahead of expectations at +0.5% m/m in July, and initial jobless claims fell for the 2nd straight week as labor remains strong.
Yields were pushed higher at the front end of the curve by Powell’s speech, but yields in the belly and long end of the curve fell, reversing what had been a steady grind higher over the previous five weeks.
Growth stocks were the main beneficiary of the yield curve’s twist, as the reversal eased some of the recent pressure on P/E multiples. Cyclicals and defensives lagged. Blowout earnings from tech bellwether Nvidia also helped boost demand for stocks related to the generative A/I theme, including the mega-caps that dominate the Nasdaq, extending to strong YTD outperformance of that index.
Albion’s Four Pillars:
Economy & Earnings
The US economy showed resilience in the first half of 2023, and Wall Street analysts expect full-year corporate earnings to be roughly flat y/y. Albion’s base case expectation is that the US economy will enter recession in the second half of 2023, putting downside pressure on earnings.
The S&P 500’s forward P/E of 19x is above the long run average, so valuation could be a headwind to future returns. More predictive metrics like CAPE, Tobin’s Q, and the Buffett Indicator (Mkt Cap / GDP) suggest that compound annual returns over the next decade are likely to be in the mid single digits.
Rates rose dramatically in 2022 due to a sharp pivot in monetary policy, and have remained elevated in 2023 as progress on inflation has been slower than hoped. Fed Funds Futures now show a slight odds-on probability of one addition 25bp rate hike before year-end.
After reaching 40yr highs in spring of 2022, inflation has moderated somewhat over the past 12 months. Goods inflation has fallen due to softening demand and excess inventory, while services inflation remains elevated, in part due to shelter costs which are somewhat lagged.