January 30, 2024
The coming week should be a fairly consequential one with an FOMC meeting on tap, release of key labor market data, and a big week of earnings reports, including five of the “Magnificent Seven”. Regarding the FOMC meeting, while inflation progress remains encouraging, we expect Federal Reserve Chairman Jay Powell to throw some cold water on the prospect for near-term rate cuts, as previewed by other FOMC members like Christopher Waller and John Williams. We see no justification for cutting rates now considering that (a) the S&P 500 is at all-time highs, (b) real GDP grew 4.1% annualized in the second half of 2023, and (c) the unemployment rate and initial jobless claims remain near record lows. The primary argument for cutting rates is that the real rate is rising as inflation recedes. One, we haven’t seen any evidence yet that a more restrictive real rate is negatively impacting economic activity. Two, it presumes we know with certainty what the neutral rate is, which we don’t since it is theoretical and prone to variability. Three, rising stock and bond markets are already doing the work for the Fed, supporting economic activity thru easing financial conditions. The Fed has to be careful that easing financial conditions doesn’t lead to a re-acceleration in the economy at a time when the labor market remains relatively tight.
On that note, the latest macroeconomic data continue to reflect stronger growth, as demonstrated by stronger than expected December retail sales, housing activity, consumer sentiment, and PMIs. We still see no signs of a break in the virtuous spending and hiring cycle. However, it does appear that strong holiday spending was fueled in large degree by rising credit card and “buy now, pay later” balances, which may set us up for a bit of a post-holiday hangover. As was evident throughout 2023, the consumer remains key to continued economic growth.
We are now one-quarter of the way through fourth quarter earnings season, and so far we are seeing the typical pattern of beats against lowered expectations – both in number and magnitude. Notably, those who miss are being treated far more harshly than those who beat are being rewarded. Despite the beats, earnings per share estimates continue to edge lower. 2024 S&P 500 earnings per share estimates remain at risk, in our view, as growth and inflation slow. Meanwhile, investor sentiment remains overly bullish, and the CBOE Volatility Index (VIX), the so-called “fear gauge”, reflects an astounding amount of investor complacency despite rising geopolitical risks.
While stocks could move somewhat higher near term, supported by a continuation of better than expected fourth quarter earnings reports, the market appears to be priced for perfection and therefore vulnerable to any bad news on the economic or interest rate front.