August Economic Update

Market Summary

Stocks posted another month of respectable gains with optimism regarding a slightly weaker jobs market and inflation decelerating at a notable pace. The major market averages moved largely in tandem with the S&P 500 gaining 3.11%, the Nasdaq 100 posting a 3.81% gain, while the Dow Jones Industrial Average added 3.35% for the month. (1)

Earnings Reports & Inflation

Earnings expectations were set low after several consecutive quarters of contractions. With 84% of S&P 500 companies already reported Q2 earnings, 79% have beaten those expectations, which is above average for the past 10 years. Actual earnings declined by -5.2% year-over-year and with revenue growth rates advancing 0.6% - both of which are the lowest since the third quarter of 2020. (2)

Progress is being made on the inflation front with year-over-year Core CPI coming in at 4.8% which is the lowest since December 2021 and now a respectable decline from the 6.6% high we saw back in October of last year. If this current pace continues, then we may reach the Federal Reserve’s 2% objective by sometime in mid to late 2025. (3)

Interest Rates & the Federal Reserve

On July 26th, the Federal Reserve raised interest rates another 0.25% to for a new target range between 5.25%-5.50%. While they did note the multi-month disinflationary trend, Fed Chair Jerome Powell reiterated that more work is to be done and concerns regarding a tight labor market persist. The door was left open for another rate increase at the September Fed decision with Powell stressing that all rate decisions moving forward will be strictly data dependent. (4)

Currently, the market is predicting roughly a 50% chance that would occur with many analysts believing the Fed is at, or nearing, completion of this interest rate hiking period, given Core CPI is now below the Federal Reserve’s current interest rate. It is likely that peak interest rates will be no higher than 5.75%, barring a reversal or stagnation to the recent disinflation trend.

Looking Forward…

With the exception of rising and then falling inflation, last year’s economic and earnings data has remained remarkably similar to this year’s data while the stock market’s response has been completely different within those two time periods. Job growth has remained relatively steady with only some signs of weakening in the past couple months, forward-looking indicators such as ISM and PMI have boarded at or below recessionary levels, and the Federal Reserve has continued to raise rates higher than most expected.

With the Fed potentially nearing the end of this rising rate cycle, more focus could turn towards current stock valuations. Many analysts were forecasting earnings to begin stabilizing and possibly even growing for the last quarter, which are now revising their forecasts to later this year or into 2024. With earnings continuing to decline, the broad S&P 500 is not a value proposition at these levels with the forward 12-month price-to-earnings ratio currently at 19.2 – well above the 5-year average of 18.6 and 10-year average of 17.4.

After this extended stock market rally over the past five months, it is probable we could see a run-of-the-mill pullback into August and September which historically are seasonable weak periods of the year. That would then set up a pivotal earnings season next quarter where the market will scrutinize earnings even more than what we just witnessed this quarter. (2)

---

Monthly Financial Tip:

Flexible spending accounts (FSA’s) let you use pre-tax dollars to pay for everything from dependent care to out-of-pocket medical costs, helping you to save some money.

---

Citations:

1. WSJ.com, July 31, 2023

2. Insight.factset.com, August 04, 2023

3. Investing.com, July 12, 2023

4. FederalReserve.gov, July 26, 2023

Disclaimers:

This post has been derived from sources believed to be accurate. Please note - investing involves risk, and past performance is no guarantee of future results. Bob Lawson is not engaged in rendering legal or accounting services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.