Last week felt fairly quiet and uneventful, particularly on the macro front where fresh data was limited. The most notable release occurred on Friday, when the University of Michigan posted the preliminary November reading of its consumer sentiment index, which deteriorated sequentially and was worse than consensus across the board:
* Overall Consumer Sentiment = 60.4 (prior month = 63.8)
* Current Conditions = 65.7 (prior month = 70.6)
* Future Expectations = 56.9 (prior month = 59.3)
* 1y Inflation Expectations = 4.4% (prior month = 4.2%)
* 5-10y Inflation Expectations = 3.2% (prior month = 3.0%)
The Fed is closely watching consumers’ inflation expectations, which have begun to drift higher over the past two months. Longer term (5-10y) expectations have now reached a new cycle high. See the Chart of the Week for a time series.
Otherwise, the most notable update from last week were some public comments from Jerome Powell cautioning investors not to assume that another 25bp rate hike was completely off the table. Markets responded by pushing yields higher in the front end, and adding roughly 18% to the implied odds of another hike occurring by January.
Action in the long end of the curve was muted, allowing tech stocks to continue on their recent path higher. Otherwise, equities were mixed, with poor performance from then energy sector (driven by steadily falling oil prices) pulling down small and midcap benchmarks.
Albion’s “Four Pillars”:
Economy & Earnings
The US economy has shown resilience so far in 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 late 2023 / early 2024, putting downside pressure on earnings.
The S&P 500’s forward P/E of 18x 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 (Eq 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 the Fed remains committed to fighting inflation. Futures markets now imply roughly a 1-in-4 chance of another 25bp rate hike in late 2023 / early 2024, followed by a pause.
After reaching 40yr highs in spring of 2022, inflation has moderated somewhat over the past 18 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.