MARKET RETURNS: Global equity markets extended last year’s run into the first quarter of 2024 and major indexes made new highs. U.S. large company stocks retained their leadership role, with the S&P 500 posting a double-digit gain. Yet some of 2023’s darlings lost their luster: the “magnificent 7” morphed into the “fantastic 4” as Tesla and Apple declined while Alphabet only turned positive thanks to a March rally. Foreign stocks advanced to a lesser degree, led once again by developed markets. Momentum strategies stood out from a stylistic standpoint as they successfully caught the year-end performance wave, quality stocks outperformed in the U.S. but trailed abroad, and low volatility lagged as is typical in strong market environments. Growth stocks outpaced their value counterparts, though that was largely a January phenomenon that partially reversed later in the quarter. Strong economic data led to a move higher for intermediate-term interest rates, causing a decline in high-quality bond prices. U.S. fixed income outperformed foreign thanks to dollar strength. Cash equivalents continued to generate consistent mid-single digit returns as rate cut expectations were pushed out while gold prices reached an all-time high.
LOOKING FORWARD:
Land of the Rising Stock Market: Until recently, the Japanese economy and stock market had been dormant
for decades. Following the country’s “economic miracle” from the end of World War II through the early 1990s, Japan made up over 40% of the global stock market. After U.S. dollar depreciation narrowed the trade deficit, policy decisions led to an asset price bubble that ultimately burst and was followed by several “lost decades” of stagnant growth and prices. Factors such as aging demographics and corporate culture exacerbated the situation. By the end of last year, Japan’s share of global equity markets had fallen below 6% (see chart at
right).
Now the tide appears to be turning thanks to a combination of
macroeconomic trends and corporate reform efforts. Japan’s central bank
was the last holdout in maintaining negative interest rate policy amid the
post-pandemic inflation resurgence, returning to a zero policy rate in March of this year (see chart at right). This in turn led to the yen depreciating from roughly 103 to the U.S. dollar at the end of 2020 to over 150 currently. We expect a reversal as Federal Reserve and Bank of Japan policies converge towards neutral from their respective restrictive and accommodative stances. At the same time, companies are unwinding cross-shareholdings and the Tokyo Stock Exchange is pressuring management teams to increase share prices above book value. Shareholder-friendly actions should help address governance issues that have long weighed on Japanese corporates and lead to rolling share price improvement as initiatives are announced.
ELECTION REFLECTION: While elections can stir up strong emotions related to proposed policy changes, their influence on stock market returns tends to be muted. A review of election cycle performance shows little
difference between election and non-election years, though certain trends emerge. Markets desire clarity, so volatility often spikes as voting day approaches then subsides as results come in and the associated
uncertainty is removed.
This has resulted in
stronger second half
returns during election
years as stock prices tend
to move inversely with
volatility. From a cyclical
perspective, year 3 tends
to be strongest on
average, followed by year
4 in the event a first-term
president is in office (see chart at right).
Checks and balances are a hallmark of the U.S. political system and investors tend to prefer divided
government that restrains any extreme policy changes. Accordingly, stock market returns have been highest
when there has been a divided congress that encourages compromise and moderation as illustrated by the chart below. That said, policy priorities can affect certain segments of the economy and markets and related
areas to monitor this cycle include taxes, trade and geopolitics, immigration, in addition to sectors such as energy, infrastructure, health care, and defense. Regardless, compounding returns over the long run has been an effective strategy for building wealth and investors risk missing out if they allow partisan leanings to have undue influence on portfolio decisions.
Charts this section courtesy of Pimco
CONCLUSION: The stock market’s continued rally has been remarkable, with the S&P 500 making 22 new closing highs in the first quarter alone. We view the associated broadening as healthy and encouraging since a wider group of stocks have contributed to those gains, in contrast to 2023’s extreme concentration. Sentiment has improved from fearful levels but does not yet appear overly euphoric despite enthusiasm around AI and renewed interest in cryptocurrencies driven by ETF approvals. Higher coupons have helped the bond market absorb the impact from rising intermediate-term rates, though that headwind likely needs to abate for fixed income to become a meaningful return generator within portfolios. While strong economic data has pushed out expectations for less restrictive monetary policy, inflation has returned to lower levels and a “soft landing” still appears probable. We’d expect an election-related uptick in volatility during the coming quarters and the historical analysis above argues for weathering it while maintaining an appropriate long-term strategy.
We wish you all the best as we welcome springtime after another rainy winter in Northern California and the Pacific Northwest!
Index Descriptions:
S&P 500 Index TR is a market capitalization weighted index which represents the broad market for large company U.S. stocks. Returns reflect the reinvestment of dividends.
The MSCI EAFE Index NR USD is a market capitalization weighted index which represents the broad market for large and mid-sized developed market stocks excluding those from the U.S. and Canada. Returns reflect the reinvestment of dividends and foreign withholding taxes and are translated into U.S. Dollars.
The MSCI EM Index NR USD is a market capitalization weighted index which represents the broad market for large and mid-sized developing market stocks. Returns reflect the reinvestment of dividends and foreign withholding taxes and are translated into U.S. Dollars.
The Bloomberg U.S. Agg Bond Index is a market capitalization weighted index which represents the broad market for taxable investment grade U.S. dollar. Returns reflect the reinvestment of interest.
The US Treasury Bill Auction Avg 1-month is an index comprised of short-term U.S. government-issued investments with yields collected weekly and can be considered a proxy for cash.
Portfolio performance, characteristics, and volatility may differ from the benchmarks shown. Opes portfolios are managed according to their respective strategies which may differ significantly in terms of security holdings, industry weightings, and asset allocation from those of the benchmarks. Benchmarks are unmanaged and provided to represent the investment environment in existence during the time periods shown. An index is not available for direct investment, and does not reflect advisory fees, any of the costs associated with buying and selling individual securities, or any other fees, expenses, or charges. Past performance may not be indicative of future results.
The opinions expressed in this article are for general informational purposes only and are not intended to provide specific advice or recommendations for any individual or on any specific security. All opinions expressed herein constitute the judgment of the author(s) as of the date of the report and are subject to change without notice. The material has been gathered from sources believed to be reliable, however Opes cannot guarantee the accuracy or completeness of such information, and certain information presented here may have been condensed or summarized from its original source. This information may contain certain statements that may be deemed forward looking. Please note that any such statements are not guarantees of any future performance, and actual results or developments may differ materially from those discussed. Opes does not provide tax or legal advice, and nothing contained in these materials should be taken as such. As always please remember investing involves risk and possible loss of principal capital. Advisory services are only offered to clients or prospective clients where Opes and its representatives are properly licensed or exempt from licensure. No advice may be rendered by Opes unless a client service agreement in place.
