Market Pulse

Baker Tilly Wealth Management advisors summarize changes in the economy and lend insight into market behavior and outlook in our Market Pulse series.

May 2023

Authored by: Jeremy Robert

Mixed signals continue to keep investors guessing as to what the coming months will bring. Various aspects of the economy are still showing signs of resilience as reflected by strong employment readings, better than expected corporate earnings and sustained consumer spending. However, we have begun to see weakening economic growth, increased stress in the regional banks and uncertainty around the U.S. debt ceiling, which increases the risk to the downside.

Earnings for the first quarter have come in better than expected. With 53% of S&P companies reporting results, 79% have reported a positive earnings per share (EPS) surprise and 74% have reported a positive revenue surprise. However, expectations had been revised lower coming into the year, and the blended earnings decline for the S&P companies that have reported is -3.7%, and if this trend persists, it will be the second straight quarter the S&P has reported a decline in earnings. We have begun to see companies taking steps to cut costs against an uncertain economic backdrop, while hesitating to give clear guidance on their earnings outlook.

While inflation remains well above the Federal Reserve’s target of 2%, we continue to see signs of deceleration. The March CPI report rose .1%, below estimates after increasing .4% in February, bringing the year-over-year inflation rate to 5%.  Energy prices fell by 3.5%, while the food index was unchanged. Shelter, which makes up roughly 1/3 of the CPI index, increased .6%, which was the smallest gain since November 2022 but still 8.2% higher than this time last year. The market expects another interest rate hike of 25bps, bringing the Federal funds rate to 5.25%, as the Fed continues to focus on combatting inflation. Most economists anticipate the Fed will pause after the May hike, with the belief that they will continue to evaluate the data and allow the previous interest rate hikes to permeate through the economy.

Investors will continue to look for more clarity around economic and inflation data, as well as the state of the consumer. GDP for the first quarter rose 1.1%, below the 2% estimate, while inflation remains elevated. Consumer spending accounts for roughly 70% of the U.S. economy, and although the consumer has proven to be resilient, the impact of higher prices and continued talk of a potential recession could curtail spending and slow growth.

It is a challenging time to be an investor given the conflicting narratives regarding the economy. However, this is one of the most telegraphed economic slowdowns we have seen, and management teams and consumers have had time to prepare for what may come. During these times, it is important to maintain a diversified portfolio and focus on the fundamentals, while keeping a long-term perspective.

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"The Market Pulse summarizes the notable happenings in the global economy and seeks to lend insight into market behavior and expectations."
Melissa Santas Peterson, CFA, Executive Managing Director, Baker Tilly Wealth Management
Melissa Santas Peterson

Market Pulse archive

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Authored by Jeremy Robert

Following a tumultuous 2022, markets closed the first three months of this year with single digit gains. However, the path upward was not linear. Equity investors enjoyed positive momentum in January, only to be followed by a turbulent February and volatile March, before closing out the quarter in the black. Last year, investors preferred riding out the uncertainty in defensive sectors due to rising interest rates. Investors drove broad markets higher by snapping up technology growth stocks which benefit from falling yields and strong fundamentals. International stocks also found a bid with attractive relative valuations, stronger than expected economic data and the expectation that the dollar strength was near its peak. Bond investors saw strong returns in Q1, with the strongest performance coming from longer duration strategies. All this, amidst still persistent geopolitical ambiguity, stubbornly high inflation and mixed economic data. 

Furthermore, keeping in line with their assurance to be data dependent, the Federal Reserve hiked rates in February by 25bps, and again by 25bps in March, bringing the Federal funds rate to 5.0%. The markets are anticipating another small rate increase in May, which will likely come to fruition if there aren’t meaningful signs of cooling in the labor market and inflation. The recent collapse of SVB, Signature Bank and Credit Suisse caused waves of fear to ripple through the market. As events unfolded, it became apparent that the issues faced by the banks were more specific to business models rather than a bigger systemic issue like 2008-2009. Nevertheless, confidence in the financial system is paramount and will remain the focus of regulators and the Fed. The effects of tighter lending standards and potential regulation will continue to have an impact on the Fed’s interest rate policy and on the economy for years to come.  

Looking ahead, investors will be keeping a close eye on economic and inflation data as well as the first quarter earnings which kick off the second week of April. Recent economic data has shown an economy that is clearly slowing due to the impact of higher rates, tightening financial conditions and consumers feeling the impact of sticky inflation. Earnings are expected to decline, with estimated earnings for the S&P 500 expected to decline by more than 6.5%, which would mark the largest earnings decline since Q2 2020. The forward 12-month P/E ratio for the S&P 500 is 17.8, which is below the five-year average (18.5) but above the 10-year average (17.3). 

Due to the uncertainty of the economy, we believe companies with strong fundamentals and management teams will be rewarded. We continue to remind investors that the market is not the economy and trying to pick the bottom or top is nearly impossible. At times like this, it is important to remember that time in the market, not timing the market, is the best way to capitalize on gains.  

Source: Earnings Insight, FactSet, March 31, 2023

Markets started the year off strong as inflation was trending lower and a pause in interest rate hikes was expected. However, January’s inflation came in higher than expected and economic indicators reflected a more resilient economy. Data revealed a still tight labor market, and strong retail sales showed consumers are still spending. With the expectation that more interest rate hikes were likely needed to combat stickier inflation and stronger than expected demand, global markets declined.

2023 started off with a resurgence of optimism from investors. Both stocks and bonds rallied in January on the premise that the Federal Reserve is nearing the end of their rate hiking cycle, with many market participants forecasting cuts in the late half of the year. However, the Federal Reserve remains focused on keeping interest rates higher for longer to regain price stability. Will the aggressive interest rate hikes from last year push the economy into a recession? If so, how deep will the potential recession be?

2022 proved to be a challenging year for markets, as both equities and fixed income were negatively impacted by the Federal Reserve's effort to combat the worst inflation seen since the 1970s. The question for investors in 2023 now remains: How deep will a potential recession be and how much has the market already priced in?

The market rallied in November amid hopes that inflation in the U.S. may have peaked, paving the way for the Federal Reserve to slow the pace of their interest rate hikes. In addition, other positive support came from China announcing that they will loosen their strict zero Covid policy, which has weighed on the global economy.

When it comes to the markets in the short term, it is very difficult to predict what will happen day-to-day or week-to-week. For example, the S&P 500 was up 7.99% in October and down 18.76% year-to-date. Many people likely did not expect such a strong October, which is why looking at history over the longer term provides more certainty when making financial planning decisions.

Market volatility remains heightened due to the Federal Reserves “higher for longer” monetary policy. And, the market continues to struggle to price in the impact that higher interest rates will have on valuations and the growth of the economy.

2022 continues to present investors with challenges, including a positive correlation between stocks and bonds, which has made markets difficult to navigate. And, the market remains concerned about heightened inflation and slowing growth as interest rates are expected to rise.  

This information does not constitute investment advice and is not an offer to buy or sell a security. The material is provided for general information and educational purposes and is based on information provided to us by sources deemed to be reliable. All expressions of opinion are subject to change without notice in reaction to shifting market conditions. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed. Examples provided are for illustrative purposes only and not intended to be reflective of results you can expect to achieve. Past performance is no guarantee of future results and asset values will fluctuate with changing market conditions. All investments are uninsured and can lose value. Please review the underlying assumptions in this report carefully. 

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