Stock Market Defies Headwinds, Hits Record Highs
Despite facing several challenges, the stock market has resumed its upward trend, reaching record highs last week. This is a remarkable feat, considering the headwinds that have intensified in recent months.
Interest Rates, Dollar Strength, and Valuation Concerns
Long-term interest rates, although off their highs, remain above levels seen in recent years. This creates a hurdle for those needing to borrow money or refinance debt. Additionally, expectations for rate cuts from the Federal Reserve have decreased, a development that has market bears optimistic. The U.S. dollar has also appreciated significantly against many major foreign currencies, posing a challenge for multinational U.S.-based corporations operating in non-U.S. markets. Furthermore, valuation metrics like the price-to-earnings (P/E) ratio suggest the stock market is expensive relative to history.
Why the Market Remains Resilient
While these developments are indeed challenges, they don’t necessarily mean prices will fall. The market may be expecting these headwinds to be short-lived or be offset by other tailwinds. Alternatively, the market may simply be being irrational, and a correction may occur in the near future. It’s essential to remember that none of these factors will reliably signal where the stock market is headed in the next year. Each one is just one of many forces that can affect the outlook for earnings growth, which is the most important driver of stock prices.
Earnings Growth Remains Strong
Two weeks into Q4 earnings season, most companies are reporting results that are beating expectations. The outlook for earnings growth continues to be very positive, supported by robust profit margins. Companies have been reporting improving profit margins in Q4, and analysts continue to forecast fatter profit margins in the quarters to come. Corporate executives and industry analysts all seem to agree that business prospects continue to look up.
Macro Economic Developments
Several notable data points and macroeconomic developments have emerged since our last review. Card spending data is holding up, with JPMorgan and BofA reporting increases in card spending. Consumer sentiment, however, has fallen for the first time in six months, edging down 4% from December. Home sales have risen, with sales of previously owned homes increasing by 2.2% in December. Home prices have also risen, with the median existing-home sales price progressing 6.0% from December 2023 to $404,400. Mortgage rates have ticked lower, with the average 30-year fixed-rate mortgage declining to 6.96% from 7.04% last week.
Job Market and Unemployment Claims
Unemployment claims have ticked up, with initial claims for unemployment benefits rising to 223,000 during the week ending January 18. This metric continues to be at levels historically associated with economic growth. Offices remain relatively empty, with peak day office occupancy at 61.6% on Tuesday, up more than five points from the previous week.
Surveys Point to Cooling Growth
Surveys point to cooling growth, with S&P Global’s January Flash U.S. PMI indicating that output growth slowed slightly in January. However, sustained confidence suggests that this slowdown might be short-lived. Near-term GDP growth estimates remain positive, with the Atlanta Fed’s GDPNow model seeing real GDP growth climbing at a 3.0% rate in Q4.
The Long-Term Outlook
The long-term outlook for the stock market remains favorable, bolstered by expectations for years of earnings growth. Demand for goods and services is positive, and the economy continues to grow. The economy is less coiled than earlier in the cycle, with major tailwinds like excess job openings having faded. Job creation remains positive, and the Federal Reserve has shifted its focus toward supporting the labor market. We are in an odd period where hard economic data has decoupled from soft sentiment-oriented data. From an investor’s perspective, what matters is that the hard economic data continues to hold up.
Investor Takeaway
In conclusion, the stock market’s resilience in the face of headwinds is a testament to its ability to overcome challenges. While there will always be risks to worry about, the long game remains undefeated, and it’s a streak long-term investors can expect to continue.
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