Market Commentary - November 2024

Monthly Update

My October letter purposely included the big early November events of the election and the Federal Reserve meeting. The market momentum seen in those first few days following the Trump victory and another interest rate cut carried through to the end of the month. Expectations of no tax increases and an easing of the regulatory burden, along with a further easing of monetary policy was what was celebrated. Yes, we will likely get tariffs next year slapped on some of our trading partners, but hope remains that they will be selectively chosen rather than in a scattershot fashion. Time will tell, of course.

With respect to the Fed that meets again in December, the challenge they face in cutting more is that the US economy continues to hang in there, as do inflationary pressures. Notwithstanding the deceleration from the 2022 peak, and long-term rates that have risen dramatically since September when they initiated their first cut of the overnight rate. A complicated situation they face indeed.

So, we are about to ride into the new year riding the market’s enthusiasm with business friendly policies but uncertainty with tariffs. We have a Fed that is easing policy but might not have too many rates left to cut because of economic and market constraints. We have inflation that is around 3%, well off the 2022 peak of 9% but reflecting signs of staying around these levels rather than heading further to 2%[1]. We have earnings estimates that indicate further growth in 2025 but a P/E multiple of 22 times that estimate for the S&P 500 which is nearing the 24.5x peak seen in March 2000 at the bubble top of the tech stock mania[2].

Also, we continue to have what I refer to as a two-lane economic highway. In the fast lane is the higher end income earner who is also benefiting from owning stocks and a house where both are appreciating value notably. Also benefiting is anything related to AI capital spending where the big hyperscalers such as Meta, Alphabet and Microsoft are spending anywhere from $10-20b per quarter in CapEx, according to their earnings reports seen this year. Lastly, government spending is robust, with a budget deficit as a percentage of GDP around 6%, a level usually seen in recessions, not expansions[3]. The beneficiaries of this excessive spending relative to tax receipts is healthcare, infrastructure and the two major legislative initiatives from Biden, the Chips Act and the wrongly named Inflation Reduction Act. With the labor market, the pace of firing remains muted as measured by the weekly initial claims data.

In the slow lane is the inflation challenged lower to middle income consumer who might not own stocks and rents their residence instead of owns. They are spending more on needs than wants and doing so with a value seeking lens. Also, manufacturing has been in a recession for more than two years now, the pace of existing home transactions is around 30-year lows which negatively impacts all the ancillary behavior that typically takes place when a home is bought/sold[4]. In addition, capital spending outside of AI is muted as seen with durable goods orders that have been flat lining for about two years. Global trade is rather muted, and the pace of hiring’s has slowed.

I’ll widen the scope of the economic analysis to the rest of the world which also reflects a very mixed and uneven picture. Germany and France are having their own economic and political challenges with little growth and a possible change in power, but Spain is growing relatively robustly, and Greece has seen an amazing economic and political turnaround. China’s growth rate has slowed, in part due to the trouble in its residential real estate market. On the other hand, India’s GDP is growing by around 7%[5]. This also flows into the differentials in stock markets where some are way outperforming others.

Of note too in November and which has carried over into early December has been the strength of the US dollar. The Dollar Index, which is about 2/3 made up of the euro and the yen, and which saw a 3.2% rally in October, moved higher by another 1.7% in November[6]. Strength is being seen against many other currencies too, particularly vs the Canadian dollar and Mexican peso and it all has to do with the market response to the prospects of more tariffs. Theoretically, higher tariffs on importing countries can boost the value of the currency/country that is putting on the tariffs as if a smaller trade deficit is the result where we produce more domestically for export and import less, that usually is good for one’s currency and vice versa. That stronger domestic currency can also help to mitigate the cost of the tariffs as it is always the companies that are importing from the tariffed country that pays the tariff.

Tariffs though are not a free lunch. If the tariff was meant to encourage businesses to reshore to the US, that strong US dollar could discourage that possibility as it would make it more expensive to export. If the tariffs are meant to protect US industries, like steel and aluminum, it might be good for those being protected but will lead to higher costs for the users of those materials.

My point here is that there will be a lot to analyze next year on this with winners and losers and we hope that the approach of the new administration is more targeted and focused with tariffs, if they are to come, and not random and widespread.

Also, in terms of expected policies, all eyes are on the extension of the Trump tax cuts that expire at the end of 2025. With control of both sides of Congress, they will get extended but the ‘pay for’ offsets will be under plenty of negotiation. We expect the corporate rate to stay at 21% after being cut from 35% in Trump’s previous tenure. The regulatory side is where we expect the most incremental business relief as at best the tax rates will likely stay the same.

All of what was mentioned above on both the economy and policy expectations will flow through the bond market and interest rates and what the Fed will do. In November, short term rates were little changed but longer end yields did fall a bit in hopes that government spending will be more under control, and we can reduce our budget deficit relative to GDP. The new Treasury Secretary Scott Bessent has a goal of reverting back to a 3% deficit from the current pace of around 6%[7].

Conclusion

As we have a new president, and putting politics aside, we have no choice but to analyze and decipher the incoming tax and regulatory policies that will influence the economy and corporate earnings and will also be reflected in the prices of stocks and bonds. We strive to maintain an objective perspective and ensure that politics does not influence our investment decisions.

Regardless, we do believe that we will remain in a higher interest rate world for a while and that the salad days of zero interest rates and large-scale Fed asset purchases are over, at least for now. That matters for borrowers in our credit driven economy, particularly for the US government where the spending on interest expense now exceeds spending on our national defense. While it hasn’t mattered yet, if rates stay higher, and even go higher from here on the long end of the yield curve, it could matter for US stocks and the high valuations we currently have. As stated, the forward P/E ratio of the S&P 500 is getting close to the level seen at the tech bubble peak in March 2000. We are not valuation agnostic, so it is something we are watching.

Whatever comes our way though, whatever this new administration brings us, it remains vital that investors have adequate short-term liquidity over the next 2-3 years. Knowing that period is covered can help separate the balance of one’s portfolio from the ups and downs of the market. Time horizon is always crucial and is always the best friend of any investor. We are not just in the asset management business but also in the risk management business and always believe that by watching our back and focusing on the risks, the upside should take care of itself.

Disclaimer

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. The market and economic data is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly. The information in this report has been prepared from data believed to be reliable, but no representation is being made as to its accuracy and completeness.

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[1] Bloomberg

[2] Bloomberg

[3] Bloomberg

[4] Bloomberg

[5] Bloomberg

[6] Bloomberg

[7] The Times