Weekly Recap:
Rates continued to drift higher and stocks pulled back in the final full week of trading ahead of the US election. Treasury yields finished the week 10-15 basis points higher across the curve, and are now a total of 60-80 basis points above where rates were trading immediately prior to the jumbo 50bp rate cut from the September FOMC meeting. The ICE BofA MOVE Index (a measure of implied volatility in Treasury yields) rose another 5 points last week to finish at 132.58, the highest print in over a year.
As rates and rate volatility have climbed over the past few weeks, stocks have struggled despite a reasonably good start to Q3 earnings season from a company fundamentals standpoint. Last week was no exception, as weakness in large cap tech stocks pulled the Nasdaq Composite and the S&P 500 lower. Nevertheless, 2024 remains a very good year for equities: most domestic and international benchmarks have delivered YTD total returns that are well into the double digits, albeit with two months remaining.
From a macro standpoint, the biggest surprise last week was the lower-than-expected nonfarm payroll print which saw net gains of just +12k m/m, while consensus had called for +100k. Also, the prior two months were revised lower by a combined 112k, suggesting that recent payroll growth has not been quite as strong as the market believed (see the Chart of the Week for an updated time series). That said, storm- and strike-related distortions played a significant role in the October data, and those effects should recede going forward. Meanwhile, wage growth (+4.0% y/y, up 10bp sequentially) and average weekly hours worked (flat sequentially at 34.3) suggest that demand for labor remains strong (a weakening labor market typically features falling wage growth and fewer hours worked per employee as schedules are cut back).
Albion’s “Four Pillars”:
Economy & Earnings
The US economy has been resilient despite the higher interest rate environment. S&P 500 earnings are on track for high single-digit or low double-digit y/y growth in 2024, provided that the economy continues to expand.
Valuation
The S&P 500’s forward P/E of 21x is well above the long run average, so valuations are likely to 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 from current levels over the coming decade are likely to be in the mid single digits.
Interest Rates
Futures markets imply that the Fed will deliver 25 bp interest rate cuts in each of the last two FOMC meetings of 2024, with additional cuts in 2025. Belly and long end rates are already near what are likely to be their post-pandemic equilibrium levels, unless the US economy enters a recession.
Inflation
After becoming sticky in the 3-4% range in the first half of 2024, more recent data has reinforced the disinflationary trend, and the Fed has expressed confidence in the path to its 2% target. Services inflation remains somewhat elevated, in part due to heavily lagged shelter costs.
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