Review and outlook: Second quarter 2024

Hello, I'm Erin Hueber, Client Service Director at SEI. I'm here with Chief Market Strategist and Senior Portfolio Manager, Jim Solloway, who will be presenting our economic outlook at the midpoint of 2024. In many ways, the macro economic landscape is unchanged from the start of the year. Inflation remains high, central governments are slow to lower rates, equity markets remain concentrated, and economic indicators are still generally resilient despite the headwinds. On top of this, all eyes are on major global election outcomes. Jim, what indicators are you focused on for the second half of the year?

Thanks, Erin. We are focused on a number of macroeconomic themes. At the onset of 2024, we anticipated that business activity in the US would decelerate. So far, the economy remains fairly resilient, but signs of stress among lower income households and mixed messages from the employment surveys suggest that the economy is downshifting to a lower growth rate in line with our full-year expectations. The chart on the screen tracks the purchasing manager survey results from manufacturing, non-manufacturing, and services across several major economies. The results underscore the fact that despite some slowing in the pace of growth, the US continues to be the strongest performer among the major economies. While overall economic growth will probably continue to be somewhat below par, the US should continue to avoid sinking into recession. While other countries enjoy somewhat better growth than experienced over the past year or two.

Investors are still keenly focused on inflation, in hopes that any softening will encourage central banks to lower interest rates. What is your view on the current state of inflation?

Inflation is indeed lower, but it's not low enough to give central banks confidence in significantly loosening the reigns on monetary policy. Other developed countries also face a more inflationary environment to a greater or lesser degree. The UK seems to have a chronic inflation problem that is somewhat worse than the US, while Canada, the Eurozone, and Japan should see relatively better inflation outcomes. Even they will probably endure a higher inflation rate than was typical pre-pandemic in the years ahead.

Hopes were high at the beginning of 2024 that global central banks would make as many as six or seven policy rate cuts within the year. So far, the pace of cuts has disappointed. How has the trajectory of policy rate cuts tracked compared to your view, and what do you think this means for the markets?

As you mentioned, at the start of the year, markets were pricing in a large number of policy rate cuts by the end of 2024 for the US federal funds rate, the Bank of England's bank rate, and the European Central Bank's deposit rate. We thought at the time that this expectation on the part of traders was overly optimistic. Sure enough, the consensus view of the number of policy rate cuts between now and year end have moved much closer to our own. We do not expect the Fed to cut the federal funds rate until November or December. Looking at history, the central bank usually engages in a sustained rate cutting cycle when the unemployment rate starts to rise a few months before the onset of a recession. Of course, no one knows for certain that a recession is at hand since an official determination is typically made months after the fact. The US Bureau of Labor Statistics has reported the unemployment rate is beginning to tick higher. Viewed in isolation, this might provide enough reason to begin an easing cycle. However, the economy is still growing and the employment backdrop remains quite solid. There is still little slack in the labor market. We continue to believe that monetary policy is restrictive, but not as much as market participants generally think. Policy rates will probably fall only gradually. Zero and near-zero interest rates are unlikely to be seen again for a long time, even in a possible recession.

Our clients continue to ask how equity markets are continuing their eye-watering ascent, particularly in the US, where performance of the S&P 500 remains dominated by a handful of stocks. Jim, is there any sign that participation in equity market performance will broaden?

The S&P 500's appreciation, no doubt, continues to surprise us all. Our expectation for a greater than 10% price correction has gone unfulfilled. However, underneath the surface, as you pointed out, the picture is a little troubling. The performance of the S&P 500 continues to be dominated by a handful of tech stocks.

Are you suggesting we're facing another tech bubble?

No, I wouldn't go as far as to say that. There's no denying that the extraordinary run in the biggest stocks is based on their stellar cashflow generation and the potential impact that artificial intelligence and other technological advances could have on their future growth prospects. Nonetheless, at the end of May, the median price to earnings ratio of the top 10 companies by market capitalization amounted to a near record 33 times versus an elevated 23 times for the other 490 stocks in the index. The valuation gap in favor of the 10 largest companies doesn't come close to the 30 percentage points recorded at the top of the tech bubble in 2000, but it is comparable to the level seen during the NIFTY 50 craze of the early 1970s. While chasing these returns can be tempting, we always believe investors should remain focused on their goals, not on index performance.

Thanks, Jim. We always appreciate your insights. SEI is focused on the major issues that are of interest to our clients. We incorporate these discussions into our advisory process as the impact varies based on each client's goals. For more of SEI's insights, read our latest economic outlook available on our website.