Growth
The U.S. economy expanded at an impressive 3.2% annualized rate in 4Q23, a deceleration from a very strong third quarter but well above expectations. Many of the underlying details looked strong but consumption, again, powered the economy in both goods and services. The biggest upside surprise was trade, which rose at a 6.4% ann. pace while inventories, previously thought to be a positive contributor, detracted from growth after recent revisions. Growth will likely be slower in 2024, but continued resiliency in the consumer, disinflation progress and a modest rebound in housing should help the economy grow at a decently positive rate.
Jobs
The February Jobs report provided further evidence that the labor market is gradually easing. Nonfarm payrolls rose by 275K, beating consensus expectations. That said, other details in the report looked less strong, as downward revisions removed 167K jobs from the prior two months. Elsewhere, employment in the household survey fell, contributing to a rise in the unemployment rate to 3.9%, its highest print in more than two years. Wage growth moderated to 0.1% m/m after jumping in January. Overall, strong job gains and easing wage pressures in this report should bolster confidence in the Fed’s ability to manage a soft landing this year, even with a slower pace of policy easing.
Profits
The 4Q23 earnings season has come to a close. Our final estimate for operating earnings per share (EPS) is $53.91. This represents y/y earnings growth of 7.0% and q/q growth of 3.2%. Corporate profits ended 2023 on a high note, as economic activity remained resilient. Across sectors, information technology and communication services both had strong quarters, while lower oil and natural gas prices weighed on the energy sector. Looking forward, downbeat forward guidance from management teams could weigh on consensus estimates for earnings growth in 2024.
Inflation
The February CPI report showed that inflation is still gradually receding, although there were some areas of strength. Headline CPI rose 0.4% m/m and 3.2% y/y while core inflation rose 0.4% m/m and 3.8% y/y. In the details, higher gasoline prices supported energy prices, while food prices held steady. Excluding food and energy, goods prices rose by a modest 0.1% m/m. Across core services, owners’ equivalent rent rose 0.4%, a moderation compared to last month but still above its pre-pandemic pace, while transportation services remained elevated. While there were some bouts of strength in this report, the inflation downtrend remains intact. Importantly, with improved supply chains, moderating wage growth and shifting consumer preferences, inflation should continue toward the Fed’s 2% target, although the path down may be bumpier than expected.
Rates
At its January meeting, the FOMC voted to hold rates steady at 5.25%-5.50% for a fourth consecutive meeting. Revisions to the statement language suggest that the committee is now biased toward interest rate cuts, although it may not begin cutting as soon as markets anticipate. In fact, during the press conference, Powell stated that recent data leads him to believe that a March cut is unlikely. Importantly, Powell’s comments indicated that while the Fed is not ready to scale back quantitative tightening yet, it would talk about that process more at its March meeting. Moving forward, the Fed will be on the lookout for more “good” data to gain confidence that inflation is steadily moving back to 2% before delivering rate cuts.
Risks
- Rate cuts may not occur as quickly as expected, presenting challenges to both stocks and bonds.
- A slow-moving economy is highly vulnerable to any kind of shock.
- Elevated valuations in some parts of the market may lead to volatility and market corrections.
Investment Themes
- Despite the recent bond market rally, fixed income still offers attractive yields and protection against an economic downturn.
- Solid profit growth and reasonable valuations will be crucial in determining equity winners in a higher rate environment.
- Long-term growth prospects, a falling dollar and wide valuation discounts support international equities.
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Originally Posted March 11, 2024 – Economic Update
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