Weekly Recap:
Bond yields rose and equity markets gave back some of their post-election gains after fresh inflation data cast additional doubts on whether the Fed would cut overnight interest rates in December.
Consumer Price Index (CPI) data for October was released on Wednesday and showed little change sequentially, with core (ex food & energy) inflation still well above the Fed’s target at +3.3% y/y. See the Chart of the Week for a breakdown of CPI.
Later in the week, Producer Price Index (PPI) data showed a sequential increase in upstream inflation pressures, with core PPI inflation rising 30 basis points sequentially to +3.1% y/y. Import/export prices also rose sequentially, although trade is not currently a significant driver of inflation in the US.
By Friday’s close, futures markets were pricing in only slightly better than 50/50 odds of a rate cut in December. Meanwhile, rates moved higher across the curve last week, with 10y Treasury yields briefly touching 4.5% for the first time in five months.
Against this backdrop of sticky inflation and rising rates, equities were unable to sustain their post-election gains. The healthcare sector was particularly hard hit after President-elect Trump nominated RFK Jr. to head up the US Department of Health and Human Services. Small caps were also weaker last week after outperforming significantly in the first few days following the election.
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, with consensus calling for double-digit y/y growth in 2025 as well.
Valuation
The S&P 500’s forward P/E of 22x 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 may deliver another 25 bp interest rate cut at the FOMC meeting in December of 2024, with additional cuts possible 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 the disinflationary trend resumed over the summer, more recent inflation data has shown some renewed signs of stickiness. Services inflation in particular remains somewhat elevated, in part due to heavily lagged shelter costs.
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