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March 2024
Current Equity Exposure
Stocks continued to advance in February, with the S&P 500 and the Dow climbing by 5.3% and 2.5%, respectively, while the technology-heavy Nasdaq outperformed by 6.2% for the month. Investor confidence remains high and market positioning is lifted, as many expect a Goldilocks outcome with a soft landing. However, upside risks of inflation, together with loose financial conditions and robust labor markets, could keep the Fed high for longer. On the corporate side, excluding the standout performance of the “Magnificent 7,” S&P 500 earnings per share growth stands at a year-over-year decline of 4% for the fourth quarter. We see margin pressures as companies deal with weakened pricing power and elevated labor costs. Nevertheless, the U.S. economy continued to demonstrate resilience, with positive sentiment reflected in various indicators. January saw another upside surprise in the labor market, with payroll employment rising by 353,000. The ISM manufacturing index unexpectedly increased to 49.1, its highest level since October 2022. Additionally, the homebuilder confidence index and the University of Michigan consumer sentiment index continued their upward trajectory in February. In this backdrop, we increased our allocation to U.S. equities from 49% to 58% while keeping our international equity exposure at 59%.
The Factors
Valuation
Valuation metrics for equity remained negative. P/E increased from 23.4 at the end of January to 24.2 at the end of February.
Forward P/E decreased to 21.1 at the end of February from 22.8 at the end of January.
Inflation-adjusted valuation metrics continued to be negative.
Equity valuation metrics relative to bonds remained negative with high bond yields.
Sentiment
U.S. manufacturing activity contracted for the 15th consecutive month, but the ISM manufacturing index unexpectedly increased to 49.1.
The University of Michigan Consumer Confidence Index increased to 79.6 in February from 79 in January, as consumers are more optimistic about inflation outlook.
The NAHB index continued to increase to 48 but remained below the neutral level.
Technical
Technical indicators were positive overall, with positive momentum and fear signals outweighing negative reversal signals.
The S&P 500 was 13% above its 200-day moving average, 10% above the 100-day average, and 4% above the 50-day average.
The VIX index climbed mid-month to 15.6 but decreased later in the month as realized volatility dropped. It settled at 13.4 at the end of the month.
Macroeconomic
Nonfarm payrolls rose by 353,000 in January, stronger than expectations, indicating a healthy labor market. The four-week moving average of initial jobless claims remained steady at 212,500 as of February 24.
Retail sales fell 0.8% in January, lower than expectations.
U.S. industrial production fell 0.1% in January.
What's Driving the Markets?
Inflation: upside surprise: Inflation has seen some upside surprises in February. The consumer price index rose by 0.3% in January, hotter than consensus forecasts of a 0.1% increase, with an annual inflation rate of 3.1%. Core CPI, which excludes food and energy prices, also experienced a 0.4% gain and was up 3.5% on a year-ago basis. Following the release of January CPI data, the major U.S. equity indexes sold off as expectations for potential rate cuts have been postponed. The shelter CPI rose 0.6% and was the primary factor contributing to the upside surprise. However, as we have observed that rent growth stabilized over a year ago, and prices have dropped in many cities, we maintain confidence that rental inflation in CPI will ease. Considering the significant weight of shelter in CPI calculations, we believe that inflation will moderate gradually in 2024.
Q4 earnings: Among the 79% of S&P 500 companies that have reported results, 75% have reported a positive EPS surprise, and 65% have reported a positive revenue surprise. The blended YOY earnings growth for the S&P 500 is 3.2%. Also, there is a noticeable divergence in earnings performance between the US and Europe, with Q4 EPS growth for companies in the STOXX Europe 600 Index registering at -11% year over year so far. Communication Services, Technology and Consumer Discretionary sectors are the primary drivers of EPS expansion. On February 22, the market was boosted as Nvidia Corp.’s bullish outlook reignited interest in artificial intelligence. However, excluding the standout performers of the “Magnificent 7,” S&P 500 earnings per share growth stands at a year-over-year decline of 4% for the fourth quarter.
Fed: first cut pushed back: The minutes from the Federal Open Market Committee's January meeting shed some light on the Fed's stance and when it is going to cut rates. As widely anticipated, the FOMC unanimously decided to maintain the target range at 5.25% to 5.5% in its January meeting. Policymakers emphasized that the risks of premature rate cuts are greater than the risks of waiting too long to cut, pointing to geopolitical tensions and inflationary pressures. Given the recent upside surprise of core inflation, persistent tightness in the labor market, robust consumer spending, and the FOMC's reiterated commitment to bring inflation to its 2% target, markets now expect the Fed more likely to cut rate cut in June (with a 58% probability according to futures market) rather than in May (with a 18% probability).
As of 2/29/24. Data provided by Bloomberg, NorthCoast Asset Management, Federal Reserve History.
1 The NorthCoast Navigator is a market barometer displaying NorthCoast's current U.S. and international equity exposure and outlook. This aggregate metric is determined by multiple data points across four broad market-moving dimensions: Technical, Sentiment, Macroeconomic, and Valuation. The daily result determines equity exposure in our tactical strategies.
NorthCoast Asset Management is a d/b/a of, and investment advisory services are offered through, Connectus Wealth, LLC, an investment adviser registered with the United States Securities and Exchange Commission (SEC). Registration with the SEC or any state securities authority does not imply a certain level of skill or training. More information about Connectus can be found at www.connectuswealth.com.
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