by Justin J. Long CFP® on Oct 2, 2024 10:41:33 AM
Where We Were
Following 2022’s broad declines in equity and fixed income markets, 2023 turned out to be an extraordinary surprise. Equities rallied for the first half, then took a breather from July through October. From late October through year end, global equities surged, with the US large cap index knocking at the door of all-time record highs. Fixed income markets struggled for most of the year, a result of uncertain expectations for lingering inflation and possible central bank responses. Primary equity benchmarks rose between 9% and 27% for the year, with outperformance in the United States (again). The S&P 500 index returned 26%. Developed Foreign equities gained 18%, Emerging markets 9%. The tide for fixed income changed markedly during the last week of October and early November, when economic data confirmed deceleration inflation trends, and the Fed became much more consistent and forthright about its outlook for policy rates in 2024. The promise of at least three Fed Funds cuts helped push fixed income indexes higher – such that by year end, the bellwether US Aggregate Bond index had returned just under 6%, which was in line with longer-term aggregate bond expectations and a marked departure from the -15% decline experienced during 2022. All of the primary bond indexes produced positive total returns in 2023, ranging from 3% for long-duration Treasuries, up to 12% for high-yield corporates.
Where We Are
Equities advanced again, with bonds also enjoying a broad rally. The S&P 500 Index advanced by 2.1%, driven by a 1.1% gain in the S&P 500 Value and a 2.8% rise in the S&P 500 Growth, resulting in year-to-date (YTD) gains of 21.9%, 15.1%, and 27.9% respectively. The Russell 1000 Index also posted a 2.1% increase, with the Russell 1000 Value up 1.3% and Russell 1000 Growth rising by 2.9%, contributing to YTD returns of 21.0%, 16.5%, and 24.3% respectively. The Mid Cap index gained 1.1%, and Small Cap stocks rose by 0.7%. Both maintain positive YTD performances of 13.2% and 11.0% respectively. Developed foreign equity was up 1% in the month to 12.9% for the year, while Emerging markets rose 5.7% for a 14.8% YTD gain.
Sector performance was mixed. Consumer Discretionary led with a 7.3% monthly gain, bringing its YTD return to 12.8%. Industrials and Technology also performed well, rising by 3.4% and 2.6%, with YTD returns of 20.0% and 17.9% respectively. Communication Services showed a strong increase of 3.8%, leading to a YTD gain of 25.5%. However, some sectors struggled: Energy fell by 3.0% but remains up 7.3% YTD, and Health Care declined by 1.7%, up 14.2% YTD.
Gold gained 5.1% for the month, pushing its YTD return to an impressive 27.1%. Real Estate also performed well, with a 3.3% increase, contributing to a 14.2% YTD return. The Nasdaq 100 saw a 2.6% rise, with a YTD gain of 19.7%.
In the bond market, the Aggregate Bond Index rose by 1.3% in September, up 4.9% YTD return. Intermediate Treasuries and Corporate Bonds increased by 1.2% and 2.0% respectively, with YTD returns of 4.2% and 5.5%. Agency Bonds gained 0.9%, up 4.8% YTD. Short Treasuries (2-year) saw a 0.8% increase, up 4.3% YTD. Long Treasuries (20+ years) posted a 2.0% gain, bringing their YTD return to 2.2%. Muni Bonds had a modest 1.1% increase, with a 2.5% YTD return. High Yield bonds rose by 1.7%, up 8.6% YTD. Intermediate and short TIPS gained 1.5% and 1.0% respectively, with YTD returns of 5.0% and 5.5%.
The SPX ended September at a new all-time high of 5762. Support test levels are now 5650, its previous rebound high at the end of August, and 5535, the current 50-day MA level.
Q2 Results. With 100% reporting, 60% of companies in the SPX exceeded revenue estimates, while 80% beat EPS estimates. YoY EPS growth averaged 11%, vs. the 9% expected. The average revenue beat was 1%; the average EPS beat was 4%.
S&P 500 earnings expectations. For 2024, the expectations. For 2024, the current EPS estimate is $240/share, compared to $217 in 2023 (+10%). The 2025 estimate is $276 (+15%). The 2026 estimate is $311 (+13%). P/E ratios for those estimates are 24x, 21x, and 18x. The P/E-to-Growth (PEG) ratios are 2.4, 1.4, and 1.4. The average EPS growth rate over the past 20 years is 9%; the average P/E and PEG ratios are 18x and 2.0. The consensus price target for the SPX is 6292 (vs. 6270 a month ago and 6115 60 days ago), for an implied total return of +9%. If realized this year, 2024’s total return for the S&P 500 index would be 31%.
Source: Factset
Where We’re Headed
Whereas the FOMC has just started to cut rates, the longer-duration fixed income upswing looks to have already begun. Historically, easing cycles have been advantageous for longer-maturity, higher-risk fixed income sectors as compared to US Treasuries. Since 1984 there have been seven easing cycles, with the average holding period returns of the S&P 500, cash, high yield, muni, short-term investment-grade corporates (2-year average duration), and the US Aggregate bond index (5-7 year average duration) shown below. On average, and in general terms, the annualized performance of the intermediate duration Agg outperformed money market/short Treasury by about 2x. Core, longer-term-focused fixed income strategies such as those employed in your strategic, risk-based portfolio models tend to shine during these periods. Wherefore? Similar rated bonds are no longer available on the market at previous yield levels when the market adjusts to lower inflation and policy projections, and lower inflation expectations mean that higher coupons on previously purchased bonds and/or longer-duration, non-Treasury bonds (agencies and corporates) are now worth more.
We all tend to judge the current environment for stocks and bonds based on what has occurred in the recent past, and many are probably going to be surprised at the large, positive upward moves in fixed income strategies since last October’s low.
YTD, performance of various segments isn’t much to write home about. 6-month T-bills are up about 4%, with Dodge & Cox Income (DODIX), one of our core plus fixed income model constituents, up 6%. But remember that we had an inflation/Fed head fake from January to April of this year, which helped distract folks from broader bond market trend change, which started in October 2023.
Over the past 6 months, since bond market started to more fully reflect the change in CPI and the FOMC’s policy response, the same T-bills are up 2%, whereas DODIX has gained about 9%. The largest moves of the broader upswing have come since the end of April.
Over the past 12 months, 6-month T-bills have returned 5.4% (SHV). 2-Year T-Notes are up 6.7% (SHY). The US Aggregate Bond index is up 11.8% (AGG). Dodge & Cox Income (DODIX) and Baird Core Plus Bond (BCOIX), proxies for high-quality core plus bond strategies, are up 13.0% and 13.8%.
In addition to the recent moves in fixed income holdings (including a positive 10/2 Treasury spread). The US Aggregate is within about 4% of recovering fully on a 3-year basis, whereas many core plus managers have already crossed over into the black. On a 5-year basis, the Agg is up 2% and other active managers are up more than 10%. An 11%, 5-year total return may not seem like much, but on an average annualized total return basis, it is north of 2%. Folks should be quite happy now not to see negative numbers for trailing 3- and 5-year periods. And by the way, a 2% CAGR is only about 2% shy of the average annual performance of the US Aggregate bond benchmark over the past 25 years (4%). For comparison, it has been 8% for the S&P 500.
YEAR-TO-DATE (Weekly). Source for the following performance charts is Factset, as of 9/27/24.
PAST SIX MONTHS (Weekly)
PAST 12 MONTHS (Weekly)
PAST 3 YEARS (Weekly) – DODIX, BCOIX, US Aggregate (Green)
PAST 5 YEARS (Weekly) - DODIX, BCOIX, US Aggregate (Green)
