Q3 2024
The third quarter was another strong quarter for stocks.
However, for the first time in quite some time, we saw mid and small companies outperform large company stocks. You can see this on the cover page we send; look at the reported index performance for large cap verses the mid/small indices.
Typically, large verses mid/small company stock performance swings back and forth from quarter-to-quarter and from year-to-year. The reasons for these performance cycles have been ongoing topics in finance for years, but that’s not what I want to discuss.
When we reported to you last quarter, we was waving a yellow flag. We were becoming concerned the strong market was led by too few large companies. We felt their valuations were getting stretched and should they continue to drive the market’s appreciation, we might be looking at another serious valuation bubble.
The broadening of performance seen this last quarter, that is, seeing mid/small companies start to outperform, is a healthy sign for the stock market.
However, we want to note the stock market’s performance was strong despite worsening news on the economy.
One theme repeated by numerous companies revolved around the lowest-income segment of the population. By all accounts, low-income Americans have stopped all unnecessary spending. The thinking is that food and housing inflation have eliminated their discretionary income, forcing them to spend on essentials only.
Take for instance the commentary from McDonald’s. This past quarter, McDonald’s reported negative same-store sales. That means revenues were down year-over-year amongst stores operating for the full year. In reporting down sales, management stated it was the lowest income customers driving the decline, that those customers stopped going to McDonald’s.
This needs to be stated clearly, they weren’t spending less, they weren’t going.
The Company said their “meal deals” are no longer affordable for these customers. They said they will have to revamp the entire value portion of their menu to recapture these customers.
You will likely soon start seeing new “value” ads from McDonald’s. Their response to what is going on. All caused by inflation. We heard similar commentary by several companies over the past several months.
The other important news this past quarter involves the labor market. If we look back to the end of the pandemic, we felt one thing that might hold the economy together was a strong labor market. Companies had a tough time filling open positions because the labor market was tight. As the economy softened, we felt companies would be reluctant to cut workers so difficult to find. That turned out to be true but appears to be changing.
Over the past several months we have seen the unemployment rate tick up from the mid-3% range to 4.2% in August.
You may not know this, but the Federal Reserve is said to have a “dual mandate”. This of course is a simplification of the complex (and often inconsistent) mandates of the Fed, but it stands as a reasonable way to describe their actions. The dual mandates are price stability (low inflation) and low unemployment.
The rise in inflation a couple years ago coupled with low unemployment, gave cover to the Fed. Low unemployment allowed them to raise interest rates to combat inflation. With inflation numbers coming down and unemployment rising, the Fed is turning its attention to its employment mandate.
This past month the Fed cut interest rates by 0.50%, attempting to provide some stimulus to the economy and help the labor market.
They did this, however, before inflation came down to their target of 2%.
I believe the Fed changed its policy stance too quickly. I would have preferred more diligence in addressing inflation. In the long run, inflation is a greater risk to our economy.
The longshoreman’s strike exemplifies the lingering effects of inflation. These worker’s real wages have declined over the past 3-years, they likely deserve a significant raise. However, raising their wages raises the cost of everything that moves through ports from Maine to Texas.
This is the classic wage-price spiral that only ends when the Fed is diligent in addressing inflation.
We don’t want to be all doom and gloom, as said at the outset the performance of the stock market has been good. We’re happy to see a larger number of stocks driving the market; it’s a healthy sign. We’ll watch all the rest of it and respond as needed.
Enjoy a wonderful Fall and Holiday Season!