Here’s what some key players are telling us about the economy.
Our Top Market Takeaways for August 25, 2023.
Market update
What’s next? Cues from Wall Street to Main Street
The summertime swings continued this week. With bond yields at Global Financial Crisis–era highs, stocks struggled to find their footing.
To help give us a sense of what’s next, we surveyed the U.S. economy via four key players: the Federal Reserve, Wall Street, Main Street and the C-suite. Here’s what we learned, and what we think it means.
[1] The Fed: Chair Powell took the mic today at Jackson Hole, the Fed’s annual get-together of central bankers around the world. This year’s address felt pretty different from last year’s—when headline inflation was tracking above a roughly 8% pace, and Powell signaled the Fed would march on with rate hikes…without any suggestion of how many more might follow. With fears over what this could mean for the economy, recession obsession was mounting. Consumer sentiment was already battered, and the housing market was feeling acute pain.
Fast forward to this year. While Chair Powell stressed the job isn’t done, it’s promising that inflation has cooled this much while growth has stayed this strong. Fed staff members aren’t penciling in a recession anymore, and consumers aren’t as worried about the future. This means the policy debate has shifted from “how high” rates should go to “how long” the Fed should hold them there.
But if inflation continues to cool at the same time the Fed holds rates, this actually means the real policy rate (the Fed’s nominal policy rate minus inflation) is actually getting more restrictive. Barring something unexpected that catalyzes inflation to reaccelerate, this could set the stage for the Fed to cut rates down the line (even if Powell didn't outright say so). Markets are penciling in the first cut for next summer.
Central banks seem to be nearing the end of their tightening cycles
The chart describes central bank rates and respective market expectations as percentages. The Bank of England bank rate line started at 0.5%in January 2015. It stayed relatively flat until it went up after hitting 0.1% in November 2021. The last data point came in at 5.5%in August 2023. From there, the market expects that the rate will keep going up to 5.8% in February 2024 and then come down to 5.6% in August 2024. The fed funds rate line started at 0.25% in January 2015. It went up and peaked at 2.5 in December 2018. It soon went down and bottomed at 0.25% in March 2020. It stayed flat for a while and shot up all the way to 5.5%in July 2023. After that, the market expects it to go a bit higher to 5.6% in October 2023. Shortly after that, it is projected to come down to the last data point at 5.0% in July 2024. For the European Central Bank deposit rate, the first data point came in at -0.2% in January 2015. It stayed flat until it got to -0.5%in June 2022. Then it shot up to 3.75% in July 2023. It is then projected to go up slightly to 3.9% in December 2023 before going back down to 3.5%in July 2024. For the Bank of Japan policy rate, it started at 0.1% in January 2015. It stayed flat all the way until the last data point at -0.1% in June 2023. It is then projected to go up from there and end at its peak of 0.05% in July 2024.
[2] Wall Street: Much of Wall Street is still hung up on recession. Bloomberg’s median probability for a recession over the next 12 months stands at 60%. Recessionistas seem resolute that the weight of the most aggressive hiking cycle in decades is bound to break something. But not everyone on the Street is as convinced as they were last year. A handful of others (including us) have shifted to a “softish landing” that sees a slowdown, but not a stop, in economic activity.
Either way, this shift is starting to show up in fund manager positioning. According to the latest survey from Bank of America, fund manager sentiment (while still low) is its least bearish since February 2022. Cash allocations have fallen under 5% of assets under management to their lowest since November 2021. And it looks like at least some of that cash has gone into risky assets, with managers now the least underweight stocks since last April (even if they’re still ~11% underweight).
[3] Main Street: To be sure, there are some pain points: 30-year fixed mortgage rates made fresh 22-year highs this week, credit card delinquencies are ticking up (from a very low base) as some consumers turn to debt to finance their purchases, and the end of the student debt moratorium stands to squeeze millennials’ pocketbooks.
But even with those challenges in mind, folks haven’t changed their behavior all that much. Last week’s retail sales gauge showed spending is still pretty solid, and earnings from big retailers such as Target, Walmart, Home Depot, Lowe’s and TJX (home of brands TJ Maxx, Marshalls and HomeGoods) signposted the same. Rather, more of the changes seem to be happening at the margin, as consumers are shifting away from brand names and toward some thriftier options, and reorienting back toward goods (e-commerce is actually accelerating) after a red-hot year for services that were disrupted by COVID.
[4] C-suite: Corporate America doesn’t seem all that worried. The resounding takeaway from Q2 earnings season has been “better than expected.” All in all, earnings look set to contract just over -4% from the year prior, a ways away from the -7.3% heading into the quarter. The biggest worries from the last year also seem to be fading. Mentions of things such as “inflation” and “economic slowdown” have fallen meaningfully, and most management teams seem pleasantly surprised by the durability of demand. Next 12-month earnings expectations for the S&P 500 have also been climbing consistently since March.
For Corporate America, last year’s worries seem to be fading
This chart shows the percentage of S&P 500 companies that mention the following key phrases, “Inflation,” “Material Costs,” “Economic Slowdown” and “Job Cuts” in their earnings calls from 2022 to 2023. With the term “Inflation,” the percentage of mentions decreases from 90% in 2022Q2 to only 68% in 2023Q2. “Material Costs” acts similarly, from 55% in 2022Q2 to 37% in 2023Q2. “Economic Slowdown” decreases from 34% to 11%, and “Job Cuts” stays relatively flat from 4% in 2022Q2 to 9% in 2023Q2.
With less worry about the near term, more firms are starting to focus on how they can continue growing in the long term. Mentions of “AI” have skyrocketed, with companies across industries ramping up investments. Nvidia’s blowout earnings report this week was a case in point. The chipmaker signaled that already strong demand could still get stronger, boosting its sales expectations for this coming quarter to ~$16 billion—more than 20% above Street forecasts. These kinds of numbers mean the benefit stretches beyond just Nvidia, and the real judge will be which companies successfully integrate AI and use it effectively over the next few years.
AI is starting to gain broad-based momentum
This chart showcases the number of citations of the phrase “AI” in S&P 500 company earnings calls from 2013 to 2023. From around 2013 to 2016, only moderate year-over-year increases can be noted, with figures of ~2 only rising to ~8, respectively. Onward from that point, steady increases are observed, from 16 in 2016Q3 to 68 in 2021Q4. Only in the most recent observed quarter of 2023Q1 is there an extraordinary increase, from 78 in the prior quarter to 110. This shows the tremendous growth of the AI movement, but also that it has room for further increases.
So can 2023 still finish strong?
We think so. While there are still things we don’t know, the read from the key players—the Fed, Wall Street, Main Street and the C-suite—suggests that the outlook feels brighter today than it did a year ago.
After the late-summer swoon in stocks, valuations look less stretched than they did before, offering another chance to rebuild equity exposure—especially for those pockets of the market that haven’t rallied as much this year. And while our timing to start legging into bonds last year was tough, higher interest rates today offer a better entry point and even more protection against any unexpected spikes. For those willing to take on more risk, private credit might offer an opportunity.
From our perspective, it feels like a constructive time to be a multi-asset class investor, and creating a thoughtful plan to consider the range of possible outcomes is the most important step you can take.
Reach out to your J.P. Morgan team if you’d like to discuss any of these insights and how they may impact your portfolio.
All market and economic data as of August 2023 and sourced from Bloomberg Finance L.P. and FactSet unless otherwise stated.
We believe the information contained in this material to be reliable but do not warrant its accuracy or completeness. Opinions, estimates, and investment strategies and views expressed in this document constitute our judgment based on current market conditions and are subject to change without notice..
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