In life, 90% of disappointment lies in unmet expectations. In
mid-2023, fears that high interest rates were leading the U.S.
economy into imminent recession created a significant selloff in
U.S. equity markets. This, in turn, initiated a drumbeat of calls for
the Federal Reserve to rapidly cut rates. Attracted by 5% yields on
risk-free cash holdings, many concerned investors escaped equities
altogether in the 2023 selloff— only to see stronger-than-expected
U.S. economic performance and tame inflation news drive a 25%
advance in the S&P 500 in just six months.

As we entered 2024, the script flipped. Equity investors, excited
by a powerful bounce from 2023 lows, desired a soft landing and
“immaculate” disinflation. Interest rates in the system were high
enough to mute economic growth, slow the labor market, and choke
off inflation without causing a recession. The expectation was that
rates would fall off predictably as the economy slowed and inflation
waned. The hope was that equities would then be able to continue
their upward rally as we returned to the slow-growth/low-rate
environment that dominated markets in the 2000s. Instead, investors
have been surprised by strong economic growth in the U.S. that has
kept rates and prices higher than most expected. An expanding job
market suggests this current growth in economic activity is both
broad-based and sustainable.

The Long Run – April 2024