CWS Market Review – July 2, 2024
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Wall Street Wraps Up an Historic First Half
On Friday, the stock market closed out a very good June along with a very good first half of 2024. The S&P 500 gained 14.48% for the first half of this year. Including dividends, the index was up 15.29%. This makes 2024 one of the best starts to an election year in the last century.
The S&P 500 closed today at another all-time high.
Historically, this has been a good time for stocks. From June 27 to July 17, the S&P 500 has gained an average of 1.97%. That’s a good amount for an average of 70 years.
The market was up again yesterday. The stock market has a nice habit of starting out the second half of the year on a good note. Here’s a remarkable stat via Ryan Detrick: the S&P 500 has been higher on the first trading day of July for 14 years in a row, and for 18 out of the last 19. I should also remind you that that the S&P 500 still hasn’t posted a daily drop of more than 0.75% since April.
As I’ve mentioned many times, this year has been a tale of two markets. Growth stocks have done very well, but value stocks are only up modestly. For the first half of this year, the S&P 500 Growth ETF (SPYG) gained 23.54% while the S&P 500 Value ETF (SPYV) was up 5.69%.
Monday’s trading saw another wide gap between growth and value. Alas, what’s been going on is still happening, only more so.
I don’t want to give the impression that value stocks have done poorly. Quite the opposite. Value has done well in historical terms. The problem is that a small number of stocks have distorted the whole market. If we were to take Nvidia out of the S&P 500, then the index would still be up close to 11% this year. If we were to exclude the entire Mag 7, then the S&P 500 would be up 6% this year. On average, that’s not bad.
The Rate Cuts That Never Came
The important point to understand is that the driver of this two-tiered market is interest rates. Or, to be more specific, it’s the interest rate cuts that never came. A little over a year ago, in May 2023, the yield on the two-year Treasury fell to 3.75%. That’s a good indication of how widely rate cuts were expected. Well, they never came. Instead, the two-year currently yields about 4.7%.
Years from now, investors will look at a chart of interest rates for the last year and wonder what the big deal was. Nothing changed! We’ve nearly gone a full year without any changes to interest rates. While this is superficially accurate, it eludes the fact that nearly everyone thought the Fed would be madly cutting by now. Instead, it hasn’t done any.
The reason that interest rates haven’t changed is that inflation is still a problem. True, inflation is not as severe as it was two years ago, but inflation is still above the Federal Reserve’s target.
On Friday, the Commerce Department said that the Core PCE Price Index rose by just 0.1% last month. This is an important number to watch because it’s the Federal Reserve’s preferred measure of inflation. The reason to favor the PCE is that it’s a “broader inflation measure and accounts for changes in consumer behavior, such as substituting their purchases when prices rise.”
Over the past year, the Core PCE Price Index is up by 2.6%. That’s the lowest year-over-year rate in three years. The non-core rate, which includes food and energy, was flat last month. Both numbers matched Wall Street’s expectations.
The good inflation news hasn’t gone unnoticed. Earlier today, Federal Reserve Chair Jay Powell said he’s encouraged by the inflation numbers, but he wants to see more evidence that inflation is under control before the Fed acts.
Powell said that the last two inflation reports “suggest that we are getting back on a disinflationary path.” That’s unusually optimistic language from a Fed chair. Bear in mind, central bankers are paid to look dour and concerned.
Powell was asked if the Fed is going to raise rates in September. He elegantly sidestepped the question, but he said the Fed will be focused on more data. The Fed meets again at the end of this month, and you can forget about any rate hikes, but there’s a good chance we’ll see one in September. Futures traders currently think there’s a 70% chance that the Fed will cut in September. They see two cuts before the end of this year.
Manufacturing Has Declined 19 Out of 20 Months
Ideally the Fed can raise interest rates without damaging the economy. However, the evidence suggests that won’t happen. We’re getting some small signs that the economy may be getting stretched thin. I don’t want to overstate this, but there are some concerning signs.
On Monday, for example, the latest ISM Manufacturing Index said that the factory sector of the economy contracted. For June, the ISM Manufacturing Index was 48.5 which is down a tad from 48.7 in May.
From Reuters:
Manufacturing is being pressured by higher interest rates and softening demand for goods, though business investment has largely held up.
“We expect the manufacturing sector to remain weak over the next couple of quarters,” said Oliver Allen, senior U.S. economist at Pantheon Macroeconomics. “The retreat in corporate bond yields since late last year … seems to have provided some support to investment spending, but not enough to get manufacturing growing again. A much more significant loosening in financial conditions is required to change that.”
The ISM Manufacturing Index has been below 50, meaning it’s contracting, 19 times in the last 20 months.
We’re also seeing some signs of weakness in the labor market. For example, the number of job openings per each unemployed person has fallen sharply over the past few months. Tuesday’s JOLTS report showed 1.2 job openings for each unemployed person. Two years ago, the ratio peaked at 2.0. Also, the “quick rate” has fallen. That suggests that workers are less optimistic that they can easily find a new job.
The next big test for the market will come this Friday when the government releases the June jobs report. Wall Street is cautious. The consensus is that the economy added 200,000 net new jobs last month and that the unemployment rate stayed at 4%.
Stock Focus: Constellation Software
Yesterday was Canada Day so in honor of our friends in the north, I wanted to feature a Canadian stock this week that’s not well-known south of the border. The company is Constellation Software (CSU.TO) of Toronto. The ticker symbol is CSU, and it trades on the Toronto Stock Exchange.
Officially, Constellation Software describes itself as a diversified software company, and that’s accurate, but the company is also like a publicly-traded venture capital firm that buys up smaller software companies. It’s hard to find a company that’s grown that consistently for that long.
Most of Constellation’s purchases are small. Since the company was founded 30 years ago, it’s bought up more than 500 companies. I can’t think of a company that’s been such an astute investor.
Constellation had its IPO in 2006, and it’s been a big success since then. Since then, the stock has gained 26,800%.
Constellation is run by Mark Leonard who prefers to keep a low profile—a very low profile. Outside of his shareholder letters, there’s not much info on him.
What we do know is that Leonard tries to keep Constellation very decentralized. He prefers to have small business units. The company aims to buy niche businesses and it owns them for a long time.
Leonard is a fan of Illinois Tool Works (ITW) because that company has been able break down larger acquisitions into smaller business units.
Constellation is currently followed by five analysts. For 2025, the consensus expects Constellation to earn $136.89CDN per share. That means the shares are going for 29 times earnings.
That’s all for now. The stock market will be closed at 1 p.m. ET on July 3, and it will be closed all day on July 4 for Independence Day. I’ll have more for you in the next issue of CWS Market Review.
– Eddy
Posted by Eddy Elfenbein on July 2nd, 2024 at 5:51 pm
The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.
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