Markets React to Fed’s Path and US Election: November 24

Markets pause for breath as investors digest monetary policy shift and upcoming US Election

Global equity markets showed mixed performance in October, with most major indices taking a breather after a strong rally during the first nine months of the year. Both the S&P 500 and the MSCI World Index posted mild declines of 0.9% over the month amidst market uncertainty regarding the upcoming US Presidential Election and whether stronger than expected labour market data could provoke a shift in US interest rate policy.

Fed’s Rate Policy and US Presidential Election

In September, the Federal Reserve implemented a 50-basis point (bp) rate cut. Notably, US Wages rose by 4% year-on-year, US Core Inflation rose 3.3% year-on-year (above the Federal Reserve’s 3% target, and non-farm payrolls rose 254,000 bringing US unemployment down to 4.1%. Key drivers of core inflation included medical care, auto insurance, and airline fares.

With the 2024 US Presidential campaign nearing its conclusion, financial markets showed heightened sensitivity to election-related risks. The VIX volatility index spiked in October, reflecting investors’ growing concerns about potential election outcomes and their implications for policy. Current polling and betting odds suggest a close race between Donald Trump and Kamala Harris.

We caution investors from making significant portfolio changes based solely on the outcome of the election. Historically, despite the noise that elections generate in the markets, the actual impact of elections is not as great as one might believe, with returns in election months not differing meaningfully from those in non-election months.

Chart 1 – Distribution of Monthly Returns for the S&P 500 Index, January 1926 – December 2023

Source: S&P Global, Dimensional Fund Advisors

Q3 US Earnings Season Exceeds Modest Expectations

The Q3 earnings season has largely exceeded tempered expectations, with 68% of S&P 500 companies beating earnings estimates (80% of companies in the index have reported so far). Major tech companies such as Microsoft, Alphabet, Amazon and Meta demonstrated robust revenue growth – pointing to a multi-year AI investment phase. However, forward guidance has been more conservative, with many companies citing election uncertainty and geopolitical tensions as potential headwinds. The blended earnings growth rate for the S&P 500 is tracking at 4.2% year-over-year, marking a return to positive territory after three consecutive quarters of decline.

Reserve Bank of Australia Holds Rates

The Reserve Bank of Australia (RBA) maintained its hawkish position in October, keeping rates steady at 4.35%. Governor Michele Bullock continues to emphasise the importance of seeing inflation firmly within the 2-3% target band before considering any policy shifts, despite the emerging global trend toward monetary easing. Against this backdrop, the ASX 200 performed similarly to global indices, declining 1.3% for the month. The Australian Dollar traded in a volatile range through October, influenced by the crosscurrents of diverging central bank policies and China’s economic situation.

China’s Economic Recovery Shows Mixed Signals

Following September’s significant stimulus measures, China’s economy displayed mixed signals in October. The People’s Bank of China’s (PBOC) mortgage rate cuts and reserve requirement reductions have started to filter through to the real economy, though the impact remains modest. Property market concerns continue to weigh on consumer confidence, despite the government’s supportive measures. The Shanghai Composite has struggled to maintain September’s momentum, retreating 1.7% in October as investors look for more concrete signs of economic recovery.

Early indicators suggest Beijing’s stimulus measures are having some positive effect on consumer spending and business sentiment, though the recovery remains fragile. Manufacturing PMI data showed modest improvement, but still indicates contraction in the sector. The success of China’s economic revival efforts holds particular importance for Australian markets, given our significant trade relationship.

Portfolio Positioning

There is no doubt that economic and political developments are particularly significant at this time, but we caution investors from giving in to the urge to act on this. Firstly, the outcomes of any of these events are extremely uncertain, and even if you could predict outcomes correctly this does not guarantee profitable investment decisions. After all, many in the market may have predicted a sustained spike in energy prices following the current turmoil in the Middle East, especially after the effect of the Russian invasion of Ukraine, and yet oil prices currently sit around or below their level one year ago.

Lipman Burgon’s investment framework aims to be resilient across market cycles, particularly taking into consideration one’s personal investment objectives. We seek to do this through diversifying asset class and risk factor exposures in a multi-asset class portfolio. This helps provide uncorrelated sources of return when major equity or bond markets are under heightened periods of volatility.

Source: FactSet