Q3 2024 Market Update: Steady Progress Amid Inflation and Uncertainty

The economy and capital markets have made considerable progress in working through the challenges of a post-Covid world, but obstacles remain on our path to a more normal environment. Inflation has finally receded to its historical average, the unemployment rate is relatively low and the economy’s services sector is growing modestly.

Yet, many consumers are still struggling with elevated prices for food, rent, new cars and everyday necessities. Further, the federal government’s massive spending binge during and after the pandemic has resulted in trillions of dollars of new debt and growing budget deficits, which, if left unchecked, could severely slow economic growth in the future.

However, history has proven that capitalism remains the best mechanism for prosperity and our nation is pretty good at eventually resolving major issues. For now, the combination of modest growth and falling inflation has resulted in solid gains in both stocks and bonds so far this year.

Consumer Behavior Shifts Amid Tight Budgets

On the economic side, further evidence suggests a modest slowdown may be occurring. The effects of elevated inflation have stretched consumer pocketbooks, and consequently, delinquency rates for both auto loans and credit cards are on the rise. Furthermore, consumer spending habits have been volatile. The latest monthly retail sales report showed only five of thirteen categories posting a gain, yet the latest three months showed an annualized gain of 5.7 percent, the fastest pace in a year.

Still, the details of the report suggest consumers have grown more frugal, going online to search for deals and discounts on essentials. With the savings rate falling to 2.9 percent amid cooling labor markets, consumers have little choice but to tighten their budgets. The labor markets are also showing a mixed picture, as the latest monthly data showed job gains below expectations and downward revisions to the prior two months. This leaves the latest three-month average job creation at the lowest level since 2020.

Further, the unemployment rate has risen from 3.7 percent at the start of the year to 4.2 percent today. While still low by historical standards, it illustrates that the job market is losing steam. While layoffs remain largely subdued, many companies are putting off expansion plans amid high borrowing costs and uncertainty ahead of the presidential election.

Manufacturing Struggles, Housing Shows Resilience

Other parts of the economy are showing modest growth but with mixed results. The manufacturing sector shrank in August for a fifth consecutive monthly decline and the lowest level since May 2020. The gauge for new orders dropped to a 15-month low. Declining new orders and backlogs remain headwinds for production and illustrate a still struggling manufacturing sector. Still, staffing levels remain fairly constant, inventory management is better, and customer inventories are down, suggesting the potential for a modest rebound in the quarters ahead.

The housing sector is another area showing some promising trends, but it, too, remains volatile and a bit unpredictable. New housing starts bounced back last month, after tumbling the prior month. New construction of single-family homes increased nearly 16 percent, the first monthly increase since February. Builders are awaiting a sustained pickup in demand to help work down an inventory of unsold homes that’s hovering near the highest level since 2008.

At the same time, mortgage rates have fallen to the lowest level since 2022 on expectations the Federal Reserve will continue to lower interest rates, which should help sales and chip away at high inventory levels.

Fed Rate Cuts Ignite Optimism

Amidst modest growth, declining inflation and slightly weaker economic trends, the Federal Reserve decided to cut short-term interest rates in September by 0.5 percent. This marks the first cut in four years and double what was expected by investors. This decision is based on their dual mandate to keep inflation low and ensure full employment. Investors cheered this announcement as lower interest rates should positively impact consumer and business spending.

In this environment, stocks and bonds generally produced solid results for the quarter. The S&P 500 returned 5.9 percent, while mid- and small-cap stocks returned 6.9 percent and 10.1 percent, respectively. Value stocks tended to outperform growth and international stocks performed reasonably well. In bonds, lower interest rates helped the Aggregate Bond Index produce above-average results with a return of 5.2 percent, while high-yield bonds returned 5.3 percent for the quarter.

Our Outlook

Looking ahead, the economy appears poised for modest growth with falling inflation and a rebound in corporate earnings. At the same time, the Federal Reserve is expected to continue lowering interest rates, which should help borrowers, stabilize prices and buoy the labor markets. In this environment, stocks should perform reasonably well if the economy does not tip into a recession. With moderating inflation, lower interest rates and relatively high starting yields, bonds should produce solid returns and help balance out potential volatility in stocks.

We thank you for your continued support of our firm, our investment process, and the trust you have given us to manage your assets. We will continue to work hard on your behalf to deliver solid risk-adjusted returns. Should you have any questions, please do not hesitate to reach out to your financial adviser.