1Q24 Letter : "What Recession?"
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Business Update
During the first quarter of 2024, Evolve Investing continued its growth trajectory. We added two new clients, bringing our total to 30 households, and our assets under management are up nicely from the end of last quarter. Several clients have hit meaningful milestones with respect to wealth creation. I’m grateful to be a part of your journey.
Over the last two quarters, we’ve seen strong demand for risk assets and solid growth across our portfolios. You’re always welcome to reach out to me directly to discuss the markets and your investments.
What Recession?
Over the last two quarters, economists, investors, and the general public have meaningfully shifted expectations regarding a potential recession. According to a recent Bloomberg survey, economists now see a 35% chance of recession in the next year, compared to a 70% chance just over a year ago. Bank of America Corp.’s monthly global fund manager survey suggests that money managers have similar views, with roughly two-thirds of respondents saying that a recession is unlikely in the next 12 months, compared to 10% in late 2022.
The major driver behind the solid economic performance is resilient U.S. job market growth. As shown in the graph below, initial jobless claims have remained low, while the unemployment rate remains below 4.0%. Bloomberg survey respondents now expect the unemployment rate to peak at 4.1% later this year, a generally healthy level. I mentioned last quarter that the U.S. consumer remains resilient. With these revised expectations for job growth and consumer spending driving roughly two-thirds of overall economic activity in the U.S., “soft landing” or “no landing” scenarios are increasingly likely.
Unemployment Rate and Initial Jobless Claims, Last 3 Years
Are We in a Bubble?
In the first quarter of 2024, the stock market maintained the solid momentum we saw toward the end of last year. Catalysts for the growth included the resilient economy, a more dovish than expected Federal Reserve policy, and solid earnings growth among S&P 500 companies. Similar to last quarter, megacap technology companies drove the majority of stock market returns, with Nvidia, Microsoft, Meta, and Amazon accounting for just over half of the market’s return, according to data from Morningstar Direct.
S&P 500, Magnificent 7, and S&P 500 Ex-Tech 12 Month Returns
With the recent run-up in valuations, many strategists are expressing concern over asset bubbles. In his recent investor letter, Bill Gross said that “momentum and ‘irrational’ exuberance have dominated markets since 2022.” Bank of America Corp. Chief Investment Strategist Michael Hartnett recently commented that the appetite for risk assets “is very symptomatic of a bubble mentality.”
Similar to my view as of last quarter, I believe that with valuations stretched – albeit below peak levels - corporate earnings will be the primary driver of stock market gains. Year-to-date, many of the companies in the S&P 500 have delivered with respect to earnings growth and forecasts. For example, Nvidia’s 4Q23 earnings per share were 765% higher than in 4Q22.
S&P 500, Magnificent 7, and S&P 500 Ex-Tech Price to Earnings Ratio
Compared to previous market bubbles, such as in 2000, the largest stocks in the S&P 500 are trading at considerably lower valuations. Accordingly, I believe that while valuations are full, equity markets are not currently in a bubble. Our strategies maintain core holdings in AI leaders such as NVIDIA Corporation (NVDA), Alphabet Inc. (GOOG), Microsoft Corporation (MSFT), and other large-cap technology companies that are expected to grow earnings at a level above the market trend.
Top Ten S&P 500 Stocks P/E/ ratios and ROE Comparison, 2000 vs. 2024
How We’re Positioning
At the beginning of 2024, most of my clients’ portfolios carried an average baseline level of risk. Every household is different; therefore, every baseline asset allocation is different. Households focused on capital preservation may hold mostly fixed-income securities, whereas households focused on growth may hold up to 100% equities.
Following the blistering rally we’ve seen in risk assets, I’ve had several conversations over the last quarter with respect to asset allocation. In some cases, we’ve added risk by increasing our allocation to growth assets such as stocks and venture debt.
I consider a number of different factors when working with a household to determine the optimal asset allocation. These factors include their life stage, level of risk tolerance, financial goals, earnings potential, and ability to dollar cost average. I also consider held-away assets such as venture investments, private equity, real estate, and crypto holdings.
I pay special attention to how risk aversion fluctuates throughout the market cycle. Numerous academic studies show that risk aversion is countercyclical; investors are less risk-averse when the market is doing well and more risk-averse when the market is doing poorly.
I encourage most clients to maintain a long-term perspective, which means remaining committed to a strategy that suits their overall risk appetite and specific goals throughout economic and market cycles.
Please reach out anytime to discuss any of the above themes and how your portfolio is positioned. And as always, thank you for your continued support and confidence in Evolve Investing.
Best,
Peter Hughes, CFA, CEPA®