Mission Wealth Market Update 06/13/2024

Market Update: Fed Holds Steady

• As expected, the Fed kept interest rates steady after the May inflation data came in slightly cooler than anticipated. 
• The Fed’s revised economic forecasts indicate only one 0.25% rate cut in 2024 vs. prior projections for more aggressive rate cuts. This underscores the importance of a well-diversified portfolio to account for a variety of outcomes.  
• We expect a higher-for-longer interest rate environment, albeit with a downward bias.
• Bond yields remain attractive and we are positive on the long-term outlook for stocks, though expect bumps along the way.
• We favor alternative investments, which we believe offer enhanced long-term diversification and return potential.

First, the Consumer Price Index (CPI)…

The market digested fresh inflation data ahead of the Fed’s decision on Wednesday, with May CPI data coming in slightly below expectations. May core CPI came in at 0.2% month-over-month, the lowest reading since August 2021 and below analysts’ expectations for an increase of 0.3%. The annualized core CPI of 3.4% was also slightly below consensus expectations of 3.5% and down from April’s 3.6% level. Headline CPI was unchanged month-on-month in May vs. an expectation for a slight rise of 0.1% and was up 3.3% annualized vs. the consensus of a 3.4% annual rise leading into the report.

The report provided some respite from the hotter-than-expected inflation data, which has been a theme for much of the first half of the year. While the cooler CPI reading alleviated some concerns before the Fed’s decision, inflation still remains elevated and sticky above the Fed’s target of 2%.

…Then, the Fed

As expected, the Fed’s June Federal Open Market Committee (FOMC) meeting ended with no change to interest rates, with the Fed maintaining its target for the fed funds rate at 5.25% – 5.50%. The policy statement language was little changed from May’s prior meeting, though the statement did note there has been “modest progress” on disinflation, which was changed from “lack of progress” previously. The statement indicated the economy continues to expand steadily, the labor market remains robust, and inflation has eased but remains elevated.

Much attention was focused on the accompanying economic projections materials, aka the “dot plot” forecasts. The Fed anticipates slightly above long-term trend economic growth this year and continued strength in the labor market, both projections in line with its prior March expectations. However, inflation is expected to be slightly more elevated than previously expected. As a result, the Fed anticipates only one 0.25% rate cut in 2024 (down from 0.75% of expected rate cuts projected in March). Moreover, the longer-run equilibrium rate was revised higher to 2.8%.

Beyond 2024, the “dot plot” forecasts indicate 1.00% of cuts in 2025 and 2026.

We anticipate the Fed will be cautious to avoid cutting rates too quickly, and will want to see further progress on inflation, which has been persistently north of 3%. Fed Chair Powell alluded to this at the subsequent press conference, noting the Fed still lacked confidence to cut rates though also indicated that progress had been made on inflation. Powell reiterated that the Fed remains data-dependent regarding monetary policy; the Fed appears to have adopted a wait-and-see approach. This approach underscores our view that we have entered a higher-for-longer interest rate environment, albeit with a downward bias.

Investment Implications

We like bonds at current levels. Many of our preferred bond holdings yield mid-single digits or higher, and the current yield is the best predictor of future bond market returns. Given the structural shift to a higher interest rate environment, we anticipate some moderation in long-term stock market returns relative to the post-Global Financial Crisis years through 2021. We remain positive on the outlook for stocks, though our preference is to take some chips off the table on the back of recent stock market strength, in favor of alternative investments, which may offer enhanced long-term return potential. 

Ultimately, we expect our well diversified portfolios will continue to meet the long-term financial goals of our clients.