Investment Update October 5, 2023

Last Week on Wall Street

Economic data for the week included U.S. GDP for Q2 unchanged from prior editions, while expectations for Q3 remain far higher than trend. Durable goods orders rose a bit, although after-inflation results remained depressed. Housing data was mixed, with home prices remaining on an upward trend, while new home sales fell sharply.

Global equities fell back last week, as the ‘higher for longer’ interest rate message from central banks was a worldwide negative. Bonds fell back as well, due to the further rise in yields, with foreign bonds pressured downward by the stronger U.S. dollar. Commodities were mixed with oil up only slightly last week.

U.S. stocks were lower again last week, on the heels of the expected government shutdown, UAW strike, higher oil prices, resumption of student loan repayments, and fear of higher rates for longer, as discussed above. By sector, energy led with a gain over a percent, growth stocks suffered minimal declines on the week on net, with flattish results for technology, communications, and consumer discretionary. Utilities suffered the most, down nearly -7% largely due to higher interest rates but also largely the result of a sharp decline in the largest sector component (NextEra Energy), which skewed the results. Real estate also fell back over a percent, being affected by higher interest rates. Mid and small cap stocks bucked their recent trends, showing gains for the week.

Foreign stocks underperformed U.S. stocks, with Japan slightly underperforming other developed markets and emerging markets. A stronger U.S. dollar during the week, going along with higher interest rates, was a headwind. In addition to the already-noted concerns in the U.S., Europe has tended to be more trade-reliant, causing Chinese slowdown news to create a heavier impact. Similar to the U.S. Fed, ECB officials also hinted at a‘higher for longer’ rate regime.

Bonds fell back due to interest rates continuing higher, with investment-grade corporates underperforming treasuries, as credit spreads widened. Senior floating rate bank loans again fared best, as has been the case in most rising yield weeks. Foreign bonds fell back over a percent, with the headwind of a stronger U.S. dollar.

Despite the volatility and poor returns in 2022, where the Bloomberg U.S. Aggregate Index fell by -12%, it’s easy to forget how volatile some bonds can be, especially for those attempting to time interest rates. For example, several popular long-term treasury funds (as in the 20-year+ duration variety) are down 35-45% cumulatively over the past two years. While some historical stock/bond allocation studies use long-term bonds in the sample, the intermediate-term part of the curve has remained more popular, as they’ve offered similar yields to the long-term end of the curve, with far lower duration (and matching lower volatility). Of course, for those making interest rate calls, the duration of long bonds can be a very strong performer should rates fall, and one has the fortitude to wait.

Commodities experienced a mixed week, with strength in industrial metals and energy offset by sharp declines in agriculture (higher wheat supply) and precious metals. Crude oil rose almost a percent last week to $91/barrel, representing a calmer week than many this past quarter. A good amount of OPEC spare capacity exists, which is unusual outside of recessions, and again points to that group’s planned strategy to withhold supply from market—to keep prices elevated. Demand, on the other hand, has not fallen off. The U.S. Strategic Petroleum Reserve holds about half the barrels it did a decade ago, having already been tapped to easy earlier supply pressures and not yet refilled (at current high prices…the government would prefer oil to be on sale as well). The U.S. storage hub in Cushing, OK holds about half the inventory it did in June, exacerbating domestic low storage worries.