Brian Pietrangelo:
Welcome to the Key Wealth Matters weekly podcast where we casually ramble on about important topics including the markets, the economy, human ingenuity, and almost anything under the sun, giving you the keys to unlock the mysteries of the markets and investing. Today is Friday, January 26, 2024. I'm Brian Pietrangelo and welcome to the podcast as I would like to introduce our panel of investing experts here to share their insights on this week's market activity and more. George Mateyo, Chief Investment Officer, Steve Hoedt, Head of Equities, and Rajeev Sharma, Head of Fixed Income. As a reminder, a lot of great content is available on key.com/WealthInsights, including updates from our Wealth Institute on many different subjects and especially our Key Questions article series addressing a relevant topic for investors each Wednesday. In addition, if you have any questions or need more information, please reach out to your financial advisor.
Taking a look at this week's market and economic news, the S&P 500 continues to roll along making multiple record highs, so we'll get Steve's take on that later on in the podcast. From an economic perspective, we've got three data points to share with you this week. First on the overall initial unemployment claims, the number came in at 214,000 for the weekend in January 20th. That was a tick up from the prior week, but very notably has stayed in this corridor around 220,000 job initial unemployment claims for many, many months, almost six to nine months.
So the good news is the job market continues to remain resilient as one of the signs in the overall labor market. The big news for the week was real GDP came in for the fourth quarter of 2023 at an annualized rate of 3.3%. This is the advance estimate, which is the first of three estimates we'll get for the fourth quarter of 2023, but it showed certainly a slowdown from the third quarter at 4.9%, which should be no big deal because we had expected that number to be lower because the third quarter was somewhat of an anomaly being so strong at 4.9%.
So 3.3% still was better than expected because we were anticipating and so were most economists, something in the range of 2.5%. So the good news is there that number has been driven by consumer spending, again above expectations and to some degree in the fourth quarter government spending as well. And finally, just this morning, the inflation read came out from the Bureau of Economic Analysis in terms of personal consumptions expenditure or PCE inflation for December of 2023 coming in at 2.6% year over year, which was the same as November the prior month.
However, excluding food and energy, the volatile subcomponents, which is the most preferred read for the Federal Reserve's measure of inflation, core PCE came in at 2.9% year over year in the month of December 2023, which was lower than the 3.2% from November. In addition, it was the first time that that had crossed the threshold getting below 3% for the overall PCE inflation, getting closer to that 2% target for the Fed. So these two numbers, not only real GDP but also PCE inflation, pretty important for the Fed's Federal Open Market committee meeting next week, which you'll get some commentary from George and Rajeev as well. So with that, George, let's get your take on the overall economic data and what do you think it means for upcoming in 2024, George?

George Mateyo:
Well, I think the overall narrative, Brian is one of continued slowing but not stalling out. We've seen some slow momentum in the economy, but really when you think about the big [inaudible 00:03:33] number for the week as you talked about, the GDP numbers that came out for that quarter that just ended were really pretty impressive. We've kind of seen this above trend growth narrative play out. Yes, it did slow down, so the economy is slowing down from where it was in the prior quarter, but overall the numbers seem to suggest that the economy is in still pretty decent shape overall. I think this morning's inflation numbers also suggest the inflation machine is kind of getting back on track, and we've kind of seen a significant slow-down there too, maybe a little bit above where the Fed would like it to be on a long-term basis.
But this now suggests that maybe the Fed has room to start thinking about cutting rates because inflation has come down quite a bit. And importantly, as we've talked about before, they're not really cutting rates in response to the fact that the economy is slowing down. If I were to kind of peer through some of the headline numbers a little bit more, I think one thing that we have to pay attention to is the fact that the consumers are spending actually at a faster rate than their incomes are growing, which suggests that maybe at some point they'll be tapped out and maybe have to rely on other things to kind of keep that spending going or maybe actually their spending slows down too. But for now anyway, the overall numbers look pretty healthy. At the same time we've seen a number of companies start talking about layoffs, particularly in the tech sector.
We were in that moment probably about a year and a half, two years ago or so where layoffs started to rise a little bit. But at the same time, as you mentioned, jobless claim numbers continue to kind of be quite flat and they're actually at very low levels, which suggests that those people that unfortunately are losing jobs are actually being reabsorbed into the labor market, providing further support towards income and so forth as well. So overall, it seems to suggest that things are kind of on a good trend here in the US, and elsewhere maybe not so much. We've talked a little bit about over time about what's happening in China. We have to pay attention to the fact that it is still the second largest economy in the world, and the numbers out of there continue to be somewhat pretty weak frankly, and that's going to have to be addressed I think fairly soon.
Some of the measures that China has talked about recently suggests that they are interested in providing some support to the economy, but maybe not as much as people would hope, which again is one of the reasons why I think China continues to be stagnant from an economic perspective. The stock market as we make record highs here, is kind of plummeting to multi-year lows there, and it does suggest that some of the overall momentum that we've seen in the past couple of years is moderating quite rapidly with respect to their stock market. It's probably the biggest value in the world right now.
It's trading at kind of a fraction of where the US is right now on a valuation basis, but for right now, I think given some of the economic headwinds, we still think that we want to be favoring US markets relative to international markets, despite the fact that the US markets are considerably more expensive than the international markets. So I think overall that's kind of how I see things shaping out and where we are today. Next week of course we'll be talking about the Fed and that'll be front and center. So Rajeev, what are your thoughts about the Fed and what they're thinking about all these numbers as we've seen come out this week?

Rajeev Sharma:
Well, yes, George. I mean we do have the FOMC meeting next week and all eyes and ears will remain on the Fed and Fed Chair Powell and his press conference. The trajectory of inflation has clearly turned with that PCE print that you had mentioned, and it's achieved that Feds target of 2% for two consecutive quarters, but I do not anticipate the Fed really taking a victory lap yet. The lessons from the 70s are still there, continues to point to caution. I think the Fed has thought about that era where early cuts lead to rebound in inflation, so they don't want to repeat that. Now we did have the fourth quarter core PCE number that was bond friendly. The fed will probably telegraph that they want to continue to see more price stability. The other piece of data that moved the market was the fourth quarter GDP print. That showed an economy that's growing faster than expected, but that's again a backward-looking number.
So I think everybody in the market kind of found something that they wanted to really latch onto, whether it was the PCE print or whether it's the GDP print. But I would say that an economy that's growing faster than expected gives the Fed greater confidence in that soft landing scenario, and I think that that should not really deter them from what their path is for rate cuts. The disconnect in the market remains. I think the Fed talked about the projection of three rate cuts for the year, most likely in the FOMC meeting in the pressor. I think they'll restate that position. The market is now expecting about 525 basis point rate cuts for the year. So little has changed as far as market expectations based on the data that we saw this week. You also had the ECB president come out. The question was asked, would she rule out rate cuts in April? And she said, "The disinflationary process needs to be more advanced."
So again, it's that wait and see, we can stay higher for longer if needed. Bond yields remained anchored. In fact, we saw yields rise to session highs on the economic data and then they fell to session lows. If we focus on that 10 year treasury note yield, we're about 40 basis points higher than the lows that we saw back in late December. The data didn't do much to move the rate expectations by the market, but maybe what we can say is we started the year off with the market expecting a rate cut next week. I think the market's moved away from that now. Now if you look at expectations, the market's really looking at the first rate cut to be in May. So I guess we'll get more clarity next week and also the February meeting, but I want to focus on the 10-year part of the yield curve.
We're at around 4.15% as a yield for the 10-year treasury note. The next resistance points would be at 4.20%. That's when we have seen buyers step in at that level. If we push through that 4.2 level, the next resistance point is 4.5%. So we could start moving kind of quickly. And I do think that even though we have all eyes and ears, as I mentioned on the Wednesday's FOMC meeting, there's another piece of data that's going to come out the same day, and that's the treasury's quarterly refunding announcement. So movements along the yield curve early next week will shape the treasury's decision on auction sizes, what maturity's along the yield curve that they want to see increased.
In the August report of last year, we saw a longer duration auction sizes increase, that drove a bond sell off in September and October, if you remember. Then in November, the announcement came out that the mark was anticipating another large increase in the issuance of longer maturity bonds. The treasury did not do that. They did increase the longer dated auction sizes, but not as much as the market expected. That's when we saw yields fall throughout the rest of last year. So these announcements are going to be very important. I think the announcements are going to be market movers, and it really does blur the line between fiscal and monetary policy.

George Mateyo:
Yeah, so that's a great recap Rajeev, and I think it is important to note that this notion that maybe things other than the Fed could influence interest rates that we've talked to about this year is certainly something to watch, and I think it is important to pay attention to those refundings as well. That sounds a bit of an obscured term that many people might have a hard time kind of understanding, but your point is really spot on and I think it really makes a lot of sense for us to think about how much borrowing is happening at our country that again, could cause some pressure on interest rates if we're not careful. Steve, I think one thing also that makes me think about things I guess in the middle of the night is around inflation is the fact that pricing power has been so strong for so long, and companies frankly have been able to use this boost in inflation to try and generate greater profits in the form of pricing power. And if that inflation is starting to come down a little bit, maybe some of that pricing power is starting to fade a little bit, which again would suggest that maybe other things might have to be kind of done to really maintain corporate profits and so forth. So as you think about that and I guess your thought on kind of how we're going through the earning season right now, anything we can take away from that as it relates to pricing power and margins?

Stephen Hoedt:
Well, all I would say is that so far earning season has been pretty mixed, and there really has not been too much pressure showing up on profit margins up to this point. It doesn't mean that we won't see that later this year, but so far it's certainly not getting baked into the 2024 earnings outlook. The numbers for the year still continue to look like they're heading on an upward trajectory, and there's been nothing in the corporate reporting so far that would derail that. Now that being said, we've only had 26% of the S&P 500 report. You got 38% of the S&P 500 reporting in the next five trading sessions. So we'll have a lot clearer view of what the earnings picture is and what the margin picture is a week from now. And some of the names that are reporting in the next week are those household names we're all familiar with, Apple, Microsoft Alphabet, Amazon, Meta, ExxonMobil, Merck, MasterCard, those types of names, right?
So we will have a better cross section, we'll understand a little more what the outlook is then. As far as what the market reaction is though so far, we watch the double beats and the double misses. Those are the companies that beat on both revenue and EPS and miss on revenue and EPS in order to try to get a feel for what the market sentiment is. Right now this quarter, if you beat on both numbers, you're outperforming by 1.5%. The historical norm is 1.7. If you miss on both, you're going down 5.7%, and the historical number there is minus 3.1. So the market on the upside you're basically in line with historical performance, but if you miss, you're getting pounded almost twice as much as you usually do.
So things are skewing a bit more negative there. We'll see if that continues to hold up all the way through earning season. It just tells me that people were very optimistic coming into this market setup. That's kind of to be expected given the move that we've had from October till the end of the year and into the start of the new year, and the market's at all time high. So people are optimistic. So if you miss it makes sense that you're getting hammered more so than usual.

George Mateyo:
And Steve, in terms of getting hammered and so forth and other things we might think about with respect to how to set the market in context this year, one thing people have focused on is kind of where we're at in the cycle. We've seen a number of different rate cycles, we've seen different economic cycles as a result of that. How would you characterize things where we are today in terms of where in the economic cycle as it relates to the stock market?

Stephen Hoedt:
Well, two things. First, when the market makes an all time high, lots of people want to try to make the case that you should be selling the market because it's at a high. That's not the case. Historically, if you look, whether it's over a three month, six month, 12 month forward view, and this is since we've had the S&P 500 over that, after you've had a bear market, if you make a new all time high, the market is almost without fail higher 12 months hence. So that alone is not a reason to be a seller here. The other thing is if you look inside the market, kind of go under the hood, sector performance tells you an awful lot about what market participants are thinking about, where we're positioned in the economic cycle. And right now, obviously tech isn't the biggest leadership component in the market, but if you start to look within financials, we've had a really nice move in banks, regional banks, things like that over the last couple of weeks. And then even more granularly credit card companies, there's a whole host of them that specialize in that area. Those are the most consumer sensitive things in the financial services sector, and they have been doing very, very well lately. So the market in our view, if you look at what's performed well and then contrast that with what's not performing well, things like Staples, utilities, to a degree healthcare and pharmaceuticals, those are your traditional defensive areas of the market. The market is telling you that we're in classic mid-cycle economic conditions right now. So irrespective of people looking for a downturn in the economy, the market is not seeing it. The market is telling you that we're mid-cycle.

George Mateyo:
Well, I think that's an important thing to think about and it kind of is consistent with what the Fed has done and might be doing. I mean, this kind of reminds me again of the playbook of the early mid-nineties essentially when the Fed tightened interest rates a lot, they lifted them I think 500 basis points roughly or so. I have to go back and look at the exact numbers, but they were pretty aggressive back then and then they paused, and the overall setup for the market environment was pretty good. It was frustrating for investors in the sense that the mid-cycle that you talked about, Steve, can be somewhat challenging with a lot of macro headwinds and so forth, and that's not unusual. We saw many of those things kind of play out in those mid-90 years, if you will, and I'm not going to list them all here, but there were a lot to contend with.
But at the same time, the overall backdrop was pretty positive for equities and particularly I think large cap US stocks. So again, I think in that environment, we really want to kind of stay balanced towards risk. I think your quality trade has been spot on and that's likely to persist. Same thing that you're doing Rajeev with our fixed income portfolios, maintaining that quality bias I think will be rewarded. And people that can really maintain their discipline and kind of keep their heads on straight in this environment, I think will be very important going forward as well.

Brian Pietrangelo:
Well, thanks for the conversation today, George, Steve and Rajeev. We appreciate your insights. And thanks to our listeners for joining us today. Be sure to subscribe to the Key Wealth Matters podcast through your favorite podcast app. As always, past performance is no guarantee of future results, and we know your financial situation is personal to you. So reach out to your relationship manager, portfolio strategist or financial advisor for more information, and we'll catch up with you next week to see how the world and the markets have changed and provide those keys to help you achieve your financial success.

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