April brought a wave of economic uncertainty, as market participants grappled with worries about rising inflation levels while banking sector struggles remained unresolved (as evidenced by the demise of First Republic Bank). However, better-than-expected Q1 earnings results, led by American tech giants, helped prevent stock markets from heading into free-fall and provided temporary stability despite concerns over future monetary policy decisions.
Despite heightened anxiety, stocks managed to post positive performance.
The mayhem of March’s bank failures fueled turbulent swings in short-term Treasury yields, reverberating across bond markets a month later.
Risk factors have been a mixed bag for the month. In the U.S., Momentum, Quality, and Minimum Volatility led, while Value, Momentum, and Minimum Volatility outperformed in International Developed markets. In Emerging Markets, most factors outperformed market beta.[3]
Although economic data showed signs of improvement, the U.S. economy only grew at an unsatisfactory 1.1% in Q1—falling short of expectations for a 2% growth rate and far off from its preceding quarter's expansion figure. Meanwhile, the growth rate in the core personal consumption expenditure (PCE) index slowed to a 4.6% rate in March but remained well above the Federal Reserve's 2% target.
However, the Fed’s preferred measure of underlying inflation, the personal consumption expenditures price index excluding food and energy, has continued to rise. As does the Labor Department’s measure of employment costs, which increased 1.2% in the first quarter from the previous period, exceeding forecasts. The ongoing rise in PCE (ex-food and energy) and labor costs suggests that Fed policymakers will continue to raise their benchmark interest rate at the next meeting (early May).[4]
The bank failures of March continued reverberating across the banking sector, claiming yet another bank by the end of April. After suffering over $100 billion in outflows, regulators were forced to step in and orchestrate JPMorgan Chase’s acquisition of First Republic Bank in the third major bank failure over the past two months, ranking as the second-largest seizure of a financial institution in U.S. history.
All $92 billion of deposits are safe and secure; however, shareholders and bondholders will be wiped out. As a result, the FDIC did not need to invoke its systemic risk exception for this buyout, which was necessary with other recent takeovers.[5]
The recent economic and inflation numbers have given rise to whispers of stagflation, slow growth accompanied by inflation. Market participants would do well to revisit a similar historical period, the 1970s and early 1980s.
As shown in the chart below, while the economic environment was challenging (including several recessions), markets adjusted to the news and incorporated it into prices, then resumed rewarding long-term investors who were willing to put capital to work patiently. The market is not the economy. Focus on your goals, be patient, and harvest the potential long-term rewards.
Source: Dimensional. Growth of wealth shows the growth of a hypothetical investment of $100 in the securities in the Fama/French U.S. Total Market Research Index from July 1926 through December 2022. Gross Domestic Product (GDP) based on quarterly data from the US Bureau of Economic Analysis; quarterly data not available prior to 1947. Percentage change in GDP based on business cycle peak to trough quarter as reported by the National Bureau of Economic Research (NBER). Industrial Production, Inflation, and Unemployment based on monthly data from Federal Reserve Bank of St. Louis (FRED); Unemployment data not reported prior to 1929.
[1] Morningstar Direct, as of April 30, 2023
[2] Bahceli, Y. (April 28, 2023). World’s biggest bond markets left picking up the pieces after March mayhem. Reuters. www.reuters.com/markets/rates-bonds/worlds-biggest-bond-markets-left-picking-up-pieces-after-march-mayhem-2023-04-28
[3] Morningstar Direct, as of April 30, 2023
[4] Pickert, R. (April 28, 2023). U.S. Inflation Pressures Persist, Reinforcing Case for Fed Hike. Bloomberg. www.bloomberg.com/news/articles/2023-04-28/us-core-pce-inflation-stays-brisk-while-consumer-spending-stalls
[5] Masters, B. (May 1, 2023). JPMorgan to acquire First Republic’s deposits as U.S. regulators step in. FT. www.ft.com/content/0c61a540-e6be-4bca-8054-841d9983756b
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