There is nothing quite like summiting a mountain. A combination of utter awe and relief fills you as the vista spans for miles, followed by the stark realization that you are starting the second phase of your journey – the trip back down. At the close of the fourth quarter, the financial market is likewise standing at this pivotal point. Interest rates have likely peaked, and with rates at noticeably restrictive levels, the Federal Reserve will begin easing short-term borrowing costs, especially as inflation growth continues to slow towards the Federal Reserve’s desired goal.
What is the benefit of standing at the summit of a hard climb? The vantage point necessary to scrutinize the terrain below. This vista provides both a reflection in the challenging terrain we’ve traversed in 2023 and the ability to survey the multiple anticipated paths that lay ahead, grounded in our 2024 economic and financial forecasts.
The Ascent Through the Interest Rate Terrain
The rising terrain of interest rates has offered investors a steady climb. Historically, the path of interest rates was marked by a steady incline over time to control and slow the rise in the cost of goods. The risk of raising interest rates too quickly is akin to climbing up a vertical incline. In the past, the incline has been too steep for the US economy; tumbling into recession.
However, this time, the ascent has been different. The steep incline was not too much to handle. The Federal Reserve, for now, has been able to remain sufficiently restrictive to slow inflation towards the desired growth rate of 2%, while growing the United States economy approximately 2.95% over the last four quarters with the Atlanta GDPNowcast at 2.3% for the fourth quarter of 2023. With this target in reach, the Federal Reserve is projecting three rate cuts in 2024 with the goal of not overstimulating the economy and keeping inflation at approximately 2%. The anticipated rate decreases in 2024 suggest a gradual descent ahead, opening up more favorable conditions for our continued journey.
Consumer Health: The Backbone of Our Economy
From our vantage point at this summit, the robust health of the consumer landscape is clearly evident. Household debt remains below its historical average and while credit card debt is increasing, a decade of low interest and mortgage rates has anchored housing costs. At the same time, wages are increasing faster than inflation. This combination has allowed household net worth to grow to $151 trillion. On our trip down the mountain, we see the health of the consumer smoothing our path through continued consumer spending.
Corporate Environment: A Vista of Growth and Prosperity
On the corporate horizon, there is a distinct air of optimism. The S&P 500 is expected to see an 11.1% growth in earnings for 2024, signaling a landscape ripe with opportunity. Corporate profit margins are being fueled by higher productivity in employees through greater tenure and increased efficiencies due to the utilization of Artificial Intelligence (AI). On the whole, corporation profits are expected to perform a 180-degree turnaround from the Earnings Recession in 2023, returning to average and even above average earnings growth.
The path of corporate earnings is still littered with obstacles in the form of high debt companies that will continue to feel pressure from higher interest rates. Better than expected corporate profits will lead the Federal Reserve to choose a path of higher for longer interest rates. Avoiding these high debt companies should smooth out our investors’ routes without giving up any potential returns.
The Employment Landscape: A Ground of Opportunities
A key facet of our economic topography, the employment market remains robust and dynamic. With an unemployment rate steadied at 3.7% and 8.6 million job openings, it’s a field ripe with opportunities. Pairing the healthy employment situation with rising corporate profits continues to provide support in the stability of the jobs market. Although a tight job market can be a catalyst for inflation, the combination of utilizing technology and current demand has created an environment where wage growth has moderated but sustained at a higher rate than inflation. In such an environment, corporations will feel pressure on their earnings, as it is common for labor to be the highest cost for an employer. However, the same pressure should be released in the form of greater revenues which has been evident through this inflationary environment.
What’s Ahead: The Descent and Beyond
As we prepare to navigate the descent from this economic summit, we do so with a well-charted course and a sense of cautious optimism. The journey thus far has been one of resilience and strategic foresight, with each step taken reinforcing the strength and adaptability of our economy. The Federal Reserve’s measured approach in reducing interest rates needs to be similar to the careful pacing of a hiker on a downward trail, ensuring stability and preventing a rapid decline that could lead to economic instability.
GreenUp Portfolio Updates
We are underweighting large-cap value and overweighing large-cap growth. For our thematic investment, we are taking a profit on iShares Semiconductor ETF (SOXX) and replacing it with Health Care Select Sector SPDR Fund (XLV).
Large Cap Stock Model
We aim for a more balanced sector allocation, shifting towards healthcare and media, and introducing new stocks Elevance Health Inc (ELV), Walt Disney Co. (DIS), and Starbucks Corp (SBUX) while removing Meta Platforms Inc (META), CSX Corporation (CSX), and Iqvia Holdings Inc (IQV).
Equity Income Model
We are selling Phillips 66 (PSX) and Unilever PLC (UL) due to poor valuations and replacing them with Sanofi SA (SNY) and Diamondback Energy Inc (FANG) which are stocks with better valuations and similar dividends.
Tactical Equity Model
We are replacing iShares S&P Mid Cap 400 Growth ETF (IJK) with SPDR Dow Jones Industrial Average ETF (DIA).
Tactical Income Model
We are selling iShares 7-10 Year Treasury Bond ETF (IEF) and buying iShares iBoxx High Yield Corporate Bond ETF (HYG), SPDR Bloomberg Convertible Securities ETF (CWB), and iShares iBoxx Inv Grade Corporate Bond ETF (LQD).