- The stock market thinks the Fed can pull off a “soft landing”
- Unemployment remains at record low levels, making it hard to kill inflation
- Tech stocks are overvalued thanks to the hype around AI
For more detailed information, please watch the replay of our October 19 webinar below.
Many investors have concluded that U.S. monetary policy is not yet restrictive because employment has remained resilient. This is fallacious reasoning. Not only does it ignore the fact that monetary policy operates with long lags, but it also overlooks the fact that falling labor demand will mainly translate into lower job openings and slower wage growth when the economy is near full employment, as has been the case for the past few years.
The jobs-workers gap, which explicitly measures the difference between labor demand and labor supply, has fallen by half since its peak. This means that a recession will likely start in 2024, probably in the second half of the year. While equities might rally into year-end as bond yields decline and earnings continue to expand, the rally could fizzle out by early 2024.
After a rough third quarter, bonds and non-technology stocks are now more attractively valued. Markets tend to peak six months prior to a recession, which would imply we’d need to position more cautiously next quarter if indeed there is a high chance of recession later next year.
Updates to portfolios in Q4 include:
- Our defensive posture last quarter was prescient, as both stock and bonds lost ground in Q3
- Bonds are now at very attractive valuations/yields, and stocks are now more reasonably priced (except for large cap tech names)
- We are adding credit and duration exposure via intermediate-term corporate bonds
- We are also reducing cash equivalents and adding to stock sectors that are more attractively valued including dividend stocks and defensive sector stocks
We will continue to carefully monitor market developments and welcome the opportunity to speak with clients in more detail about portfolio strategies.