Put markets in perspective

Opening: This is Mark Peterson with the August 2023 Student of the Market Monthly Update.

(00:07) Slide 1: 3^rd best start to a year for technology stocks

Let's begin August with technology stocks, certainly dominating the story this year from a performance standpoint; up 46.6 percent for the overall sector; versus, the S&P up about 20.7 percent. I wanted to put that in historical context, and see where that ranked. it was actually third only behind 1995 and 1997 for tech stocks hot start. And you can see what happened to those other periods -- '95 and '97 --actually didn't end well for technology stocks, but the S&P 500 actually did finish higher in both of those years. So even though tech came back to the pack a little bit, the rest of the market did advance and broaden out a bit. And you can see the other periods of time you saw some other hot technology starts. Certainly 1998 or 1999 continued that technology momentum for second half of the year. But clearly, that led up to the technology bubble.

(01:07) Slide 2: 16^th best start to a year for a 60/40 portfolio

Stepping ahead to the next slide, we had some requests from for this from advisors across the country. just looking at the start for the 60/40 stock and bond portfolio on the left. You can see it's the 16th best start going back to 1926 -- so about 98 different periods. And you can see some of those other periods how they finish the year, generally pretty positive outside of a few outliers in 1987 or 1929. You saw the next five months were negative. But generally, pretty positive picture when the 60/40 gets off to a hot start. It finishes the year continuing that momentum. And on the right, just building this out, again request for this from some advisors looking at the calendar year performance, and then a risk metric. And we chose to use maximum drawdown in a given calendar year. So, just looking at how charged the 60-40 dropped in a calendar year tells a nice story. This year, certainly up 13.3 percent with only a 2.6 percent drawdown so far this year based on month ends; versus last year, down 16 percent with a 23 percent drawdown. You can see what an outlier last year was versus all these 98 years of history, generally, where that 60.40 falls tends to be up in that top left hand corner. Only a few in that bottom right hand corner.

(02:45) Slide 3: Fed funds rate has surpassed inflation, which has historically benefited bonds

Switching gears to bonds and Federal Funds Rate. Something we had light in the past but I thought it was worth an update, just looking at the fact that the Federal Funds right now is five and half percent. Targeted, the effective rate was 5.3 percent with a three percent inflation rate. So they've passed each other pretty aggressively here. We were way behind the curve back in March of 2022. Think about the first rate hike was March of March 17th of 2022. They were eight percent behind the inflation rate with Fed Funds at that point in time. That's how far they were behind the curb. I think if there was any picture that explains why the feta reserve had to do what they did in raising rates as far and as fast as they did it's this picture on the left. The fact that in this what is, almost 70 years of history and you can see that they've never been as far behind the curve as they were in March of 2022. That's what it led to the aggressive Fed rate hike cycle that we've been in. And then on the right, just looking at any time you're on top of inflation with Fed Funds. So, whenever Fed funds is in is greater than inflation, look at the performance. Money funds is still excellent which is great for savers, but there's all kinds of opportunities in the bond and fixed income world. Look at short term bonds over six percent, core bonds over seven and half percent. I think represents something we've talked about for a bit, that sometimes the front end or the cash alternative high interest rates can be appealing. But it doesn't mean that there isn't better up total return opportunities out on the curve, especially when we get into this position where Federal Funds is ahead of inflation the way it is today. Certainly some opportunities for total return out in the bond and fixed income world.

(04:42) Slide 6: The last interest rate hike to the first cut

I wanted to highlight, historically, how long it's taken between a pause in the federal rate hike cycle. So if July ends up being the last time they raise rates, how long does it take for them to actually cut rates? And just looking at the last five cycles the averages, about ten and half months and you can see the range is for anywhere between six and eighteen months. The six months was 1994 and that was a period of time when they raised rates aggressively. And then the economy slowed and they were quick to respond to that.

So I thought that was interesting just again put in contact, that would you think about if July was the is the last hike in the cycle, that puts us out into mid-next year you're looking at May, June next year historically on average. The market's priced in a little bit more aggressively than that first half of the year interest rate cut at this point but pretty much lines with history, what we're looking at on this slide. I thought it was good to provide that context.

(05:50) Slide 7: Core inflation has trailed headline inflation

Switching gears on the inflation side, always one of my favorite topics as you all know. Wanted to highlight core inflation versus headline inflation. I think that's one thing that you'll hear is the core inflation is still 4.8 percent in June while headline inflation is three percent. of course core takes out food and energy which can be volatile, but just wanted to highlight the fact that the core trailed on the way up. You can see that on the left side of the slide. The red line is the headline or the red bars the headline inflation number, the yellow line is the core number and you can see a trail quite a bit on the way up. You were talking 5.4 percent headline inflation back in September of 2021, and core inflation was still less than two percent at that point. So you saw the advance in some of those headline inflation numbers well before core responded. And you're seeing the same thing on the way down, still a little bit higher at 4.8 percent, while headlines, three. We'll see those numbers start to come together towards the end of the year. on the right side of the slide, we just highlighted that the core inflation is dominated by the shelter piece. so that rental number that we've talked a lot about is almost half of the core number. It's more than half of the service inflation. When you hear that service inflation, I don't think we'd often think about shelter being a piece of that, but service inflation is that is actually 56 percent of that shelter number. And that shelter number is going to roll off some of its peak numbers here in the second half of 2023. We didn't see shelter inflation really peak till the back half of last year. So as those numbers roll off, you'll see this core and service number start to come down. I think that the key question going forward is what happens with that shelter piece? Is it sticky, does it stay elevated? Or, does it come down like we've seen other parts of inflation come down? I think that'll be the big story with this inflation number heading into 2024 is where is that shelter number headed, does it bounce back up or does it stay lower? I think really will determine the path for core and service inflation, especially.

(08:05) Slide 8: Housing market has been resilient

On the next slide, switching gears a bit just talking about the housing market. I get a lot of questions on the housing market and it really is fascinating, the dynamics in the housing space right now. we've seen how housing prices actually tick up a little bit here in the last couple months bottomed at the end of January and we've seen the numbers tick up a little bit here nationwide of course, very regional with housing prices of course. But just wanted to look at some of the factors that were helping and hurting here. You can see we just highlighted some of the factors. Mortgage rates of course now up over seven percent, 6.8 at the end of June, versus 2.7 was the low back in December of 2020. Certainly that has multiple effects on a housing, makes it more expensive. But also, makes it more difficult for folks to sell their home. So if they're sitting on a really low mortgage that they got back a couple years ago, very difficult to sell that home and reset that mortgage to a higher rate. That's certainly keeping the inventory of homes lower which you see in the middle column on the right side. You can see the inventory of houses listed for sale is 600,000 roughly versus the peak back in December of 2016 was one and half. So you can see less than half the inventory at the peak. That certainly is helping to keep housing prices a little bit higher just because you're you just don't have much supply to meet even the demand that's out there. And then housing starts is something that I think is finally back to historical levels: 1.4 million housing starts, so these are our new homes being built; where the low back in April of 2009 was less than 500,000. this has created and added to some of that in lack of inventory challenge. Post that financial crisis, we just under build houses in a dramatic right the longer term average since the 1950s is right around that 1.4 million. And certainly that doesn't even adjust for population. But you can see how low we got in some of these housing starts in the post Global Financial Crisis era. It took a long time. We're just now starting to get back to the longer term average. This has created that whole in the amount of homes out there. So, just feeding that lack of inventory which is really helping support these housing prices. So really, a dual dynamic here: Mortgage rates certainly making houses more expensive, but the lack of inventory helping keeping prices of homes elevated.

(10:45) Slide 9: Anatomy of bull markets

The next slide switching back to stocks quickly, just wanted to update the anatomy of bull market rebounds. I've have gotten some questions from advisors just on historical bear market rallies. And we're really coming to the point now were almost in official bull market. You can see the at least based on these periods of time you can see we're down about 25 percent in the last bear market. We're up about 30 percent so far in total return for coming out of this bear market. We needed about 34 percent just to get back to break even, you see that on the bottom or at least the right side of the table below. But we just highlighted all the bull market rebounds on this chart. Just some of the detail, how long it took to get back to break even what they did one, three, and five years later. I think pretty impressive story, especially one in three years after the bear market ends. That's when you see some of the most explosive returns. Certainly this period didn't let us down in that regard in line with history, which certainly adds some fuel to the folks that think this is the start of a new bull market. But still too early to tell at this point.

(11:56) Slide 10: All eyes on artificial intelligence

And the last thing, I wanted to do something on artificial intelligence. We work with our technology team here at BlackRock. I think it's always tough to get our minds around some of these new technologies that we're not as familiar with. Certainly, we all appreciate what technologies done for us the last handful of years, but just get our minds around how artificial intelligence. A little bit different without this would be a great slide to share with clients just looking on the left some of the technology ChatGPT of course -- the entree that we're all familiar with in the artificial intelligence. And just comparing how long it took to get 100 million users to other applications that we might be familiar with whether it's TikTok, or maybe Instagram or even Uber. Look at Uber, 70 months to get to 100 million users. Only two months for ChatGPT, I think that really highlights the excitement around the artificial intelligence story and captures how it might be a little bit different than some of the technologies that we've seen even in the recent past. And I think more and to add some color to the story on the right just have some sector or industry examples of what we're used to. Healthcare, I think it's a great story. AI, trained healthcare models review and translate mammograms, 30 times faster than traditional methods. Certainly exciting to think about how much more efficient maybe some potential cost savings not that deserves ever cost savings in healthcare. But at least you can see the difference. Certainly marketing some other parts are just turbo charged probably what we've seen over the last handful of years. Not that we need any more marketing messages out there, but you can see what artificial intelligence could do really. Turbo charged some of the advancements that we've seen in recent years as far as being more efficient, perhaps some cost savings here along the way as well. But thought that was a good some good example on how artificial intelligence can really boost the economy and benefit us all.

Closing

So that does it for our August 2023 Student of the Market update. As always if you have questions or comments, certainly feel free to reach out to us, your advisor representative here at BlackRock; or, you can certainly find us on our website, Google ‘BlackRock Student of the Market’. We've got a spot on our web page where you can submit comments and questions. Certainly some of the best ideas for content come from advisors across the country. Thanks again, we'll see you next month on BlackRock’s Student of the Market Update.