The Market’s Season of Gratitude

By J. Keith Buchanan, CFA, Senior Portfolio Manager

Finally, we have arrived at the season of turkey, cooler temperatures, and reflection in appreciation.  Thanksgiving began as a day of thanks for the harvest and the past year in the largely agrarian early colonial days of America.  The first documented celebrations in North America date back to the early 17th century as a simple celebration of harvest, sustenance, and mere survival.  The tradition has outlived America’s dependence on the land and we, as a society, take a moment to appreciate the year’s bounty and express gratitude.

Over the past month, the markets seem to have gotten into the act and taken their own moment to express gratitude.

The stage was set after the regional banking crisis of this past spring.  Rates reset lower as the market breathed a sigh of relief that the contagion seemed to be somewhat contained. The subsequent tightening of lending standards would give the Federal Reserve a perfect excuse to stop their ever more restrictive monetary policy stance and perhaps even shift to an accommodative position.  However, throughout the summer, rates drifted back to their pre-crisis levels as inflation proved stubborn and the Federal Reserve communicated resolve in spite of the damage caused by the banking crisis.

Then August happened.  It was subtle and didn’t make major financial press waves initially, but it definitely caught our attention.   The Federal Reserve Bank of Atlanta maintains an econometric model that bakes incoming data to keep an ongoing forecast of the current quarter’s economic growth or gross domestic product (GDP).  The bank updates this forecast whenever there is pertinent incoming data.  The first forecast for third quarter of this year came on July 28th at 3.5%.  Over the course of August, the forecast for third quarter growth exploded to 5.6% updated on the last day of the month, a real growth environment not often experienced in a developed economy our size.  Meanwhile, inflation expectations, as indicated by the 5-year breakeven, actually declined over the same period. Red flags were everywhere as that data coming together could only mean one thing… inflation. Inflation expectations were still heading in the right direction, but real growth had taken the reins from inflation and were now putting upward pressure on long rates and punishing risk markets.  This sent the market scrambling to dust off the old economics textbooks to define and attempt to quantify “term premium”. My colleague, Tom Martin, tackled this issue in an earlier GLOBALT spotlight.  August through October felt eerily similar to 2022 in certain ways as yields churned about 100 basis points higher and equities slipped lower in an orderly but methodical fashion.  However, short rates didn’t move in concert as they did in 2022, leading to a rapid “dis-inversion” of the yield curve.

However, the end of October also brought with it an end to the punishing effects of ever-increasing real rates for which the Federal Reserve has no mandate nor antidote.  After a dose of dovishness from the Federal Reserve and reiteration by economic data which indicated general cooling, the equity markets cobbled together a three-week winning streak into this season of gratitude.

And that lands us here with long rates back with a four handle, inflation still shifting lower slowly but surely, and market bulls, like those colonial Americans, thankful for harvest, sustenance, and mere survival.

Sources: GDP Now

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