“
”Markets in Focus
Timely analysis of market moves and sectors of opportunity
Look for recent divergences in equity performance to continue at least into early 2025.
This underscores the importance of being selective.
Areas to watch include small caps, cyclicals, and global banks.
The stock market has seen some significant divergences in performance this quarter.
Watch these closely, says Matt Orton, CFA, Chief Market Strategist at Raymond James Investment Management. He believes they could present potential opportunities in select sectors, market capitalizations, and geographies through at least the start of 2025.
Financials and energy have dramatically outperformed while healthcare has gone from bad to worse.1 There’s nearly a 20% difference between financials and healthcare quarter to date: +11.74% versus -6.56%. Both money center and regional banks posted strong numbers overall and surged higher following the election on optimism around a more favorable regulatory environment going forward. Healthcare results were actually pretty good, but that wasn’t enough to overcome negative sentiment around pharmaceuticals followed by concerns over the regulatory environment under the incoming Trump administration.
Small caps continue to lead large caps following the election, supported by the strength in banks and earnings trends that are finally starting to look more favorable.
International equities have further diverged from U.S. stocks, lagging consistently throughout the quarter with underperformance accelerating after the elections. The MSCI EAFE® (Net) Index is underperforming the S&P 500 Index by more than 11% quarter to date, and Orton said there just doesn’t seem to be any good news coming.
“I don’t think we’re going to see a reversion to the mean in the near future since many of these trends likely won’t stop until we get some policy clarity following President-elect Donald Trump’s inauguration in January,” Orton said. “But that doesn’t mean there aren’t opportunities for investors. Consider leaning into what’s working, but also watch for opportunities to take advantage of the divergences across the market.”
Don’t wait for the rising tide to lift all boats
3-month implied correlation of returns for the 50 biggest companies in the S&P 500
Source: Bloomberg and Chicago Board Options Exchange (CBOE) 3-Month Implied Correlation Index, as of 11/22/24. Higher readings reflect higher correlation of returns for stocks selected.
Implied correlation on the S&P 500 is near the lowest level over the past decade, which Orton said means micro-level details matter. There is significant dispersion at the industry and company level. He said market pullbacks give investors an opening to think about exploring these various opportunities in an effort to diversify portfolios as breadth continues to expand.
“I expect improving breadth and earnings growth to support the markets into 2025,” Orton said, “but I believe selectivity will be increasingly important since I expect that what you own will matter more in 2025.”
One of the most notable divergences recently has been the outperformance of U.S. equities, particularly relative to Europe, Orton said. Recent trends in survey data highlight stark contrasts between the economic environments of the United States and Europe. In the months leading up to the election, survey data in the United States showed a large spike in uncertainty. But that has quickly reversed: Last week there was a big jump higher in the 6-month-ahead outlook in the Federal Reserve Bank of Philadelphia’s Manufacturing Business Survey, while the November U.S. composite Purchasing Managers’ Index was more optimistic than expected.
This was in stark contrast to the deterioration of sentiment in Europe, which increasingly looks consistent with stagflation. Orton believes, however, there are some attractive opportunities for selective investors to consider in Europe. There has actually been an earnings recovery in the STOXX® Europe 600 Index led by financials, which have posted earnings growth of 26% and have been the biggest contributors to the overall European earnings growth rate. Orton has favored global banks for a while, and this includes many in Europe, particularly those on the periphery of the continent where economic growth is better than in the core. There has also been a recovery in European utilities and healthcare companies. He said it’s worth noting that Europe is only one component of international markets, and other regions like Japan have held up relatively well and also can benefit from significant fiscal packages.
One of the most common questions Orton has gotten over the past few weeks is whether these divergences can continue.
“I do think there is durability to some of the trends that we’ve seen play out, at least in the short term,” he said. “Some assumptions regarding deregulation, reshoring, increased investment, and lower taxes in Trump 2.0 seem reasonable and should lead to higher earnings going forward. This is a key reason why I remain so positive on banks and industrials, particularly aerospace and defense.”
As earnings continue to broaden, Orton said these parts of the market can see earnings per share growth continue to move higher. However, he said the market should also take President-elect Trump’s proposed policies both seriously and literally. His appointments and rhetoric certainly signal his desire to implement large parts of the economic agenda upon which he campaigned, including significant tariffs. As these policies are pushed forward in 2025, Orton expects the path for implementation will likely not be as smooth as the market assumes. He expects to see increased volatility earlier in the year.
“The reality of more serious tariffs will also start to set in, and there’s probably more questions than answers, at least at the start, further contributing to uncertainty at the start of the year,” he said. “That is why I believe investing in higher-quality companies will be increasingly important.”
There is a lot of positive momentum across the market, and Orton believes “policy is stimulative and is set to become more stimulative in coming years.”
Small caps are breaking out of a four-year consolidation while the average stock in the S&P 500 continues to push to all-time highs. As we conclude another earnings season, there isn’t going to be much to drive the market from a fundamental perspective outside of economic data and the December meeting of the Federal Open Market Committee (FOMC). Orton said that means the market likely drifts higher, with some volatility around data releases where any downside could be an opportunity to evaluate. Trends from third-quarter earnings are generally positive. This is particularly important since the economic growth-versus-inflation tradeoff, which drives price-to-earnings (P/E) multiples, will be tough to improve upon, Orton said.
“Any dramatic increase in economic growth is likely to be accompanied by higher inflation, meaning that earnings will be critical to the market,” he said. “And this also means that selectivity becomes even more important in a world where company fundamentals matter and the rising tide can no longer lift all boats. And while the S&P 500 has hit over 50 all-time highs this year, I believe there are still plenty of opportunities for investors to consider.” They include:
Small caps. Orton believes that small caps’ recent outperformance can continue. The Russell 2000® Index has been making a series of higher highs and higher lows, with a meaningful breakout following the election on expectations of deregulation, optimism about growth, and a steepening yield curve, which has supported regional banks. While higher interest rates in the near term are a concern to follow closely, Orton thinks we’re still most likely to see a cut in December and additional cuts in 2025. He said the rate-cutting cycle should be supportive for smaller companies, and historically this has been associated with strong small-cap performance. He noted that high-yield credit spreads are also tight; balance sheets are generally in good shape with companies holding near-record levels of cash and reducing levels of debt; and small-cap earnings are finally expected to start catching up to large caps in 2025.
Cyclicals. Despite the likelihood of elevated volatility in early 2025, Orton believes that cyclicals can still outperform defensives. He sees them providing a hedge worth thinking about against sticky inflation and higher growth in U.S. gross domestic product (GDP). Earnings growth for cyclicals has been improving while valuations relative to defensives still look attractive, he said. While the recent rally has sentiment stretched in the near term, he said he would consider using downside opportunistically to broaden portfolios. Financials remain the sector where he would consider having an being overweight.
Global banks. Bank profitability has held up quite well and the U.S. credit default cycle looks to have peaked. In the Eurozone, there are pockets of economic resilience, especially in the periphery. These banks have performed well year to date, and Orton continues to expect them to outperform.
Small caps only 1.5% below their November 2021 all-time high
Russell 2000 Index since 2020
Source: Bloomberg, as of 11/22/24
Tuesday brings the minutes of the FOMC meeting in November.
Wednesday brings initial jobless claims, an update on U.S. GDP growth, and the core Personal Consumption Expenditures (PCE) Price Index, along with other personal income data for October.
1 Unless otherwise indicated, all data cited is sourced from Bloomberg as of Nov. 22, 2024.
Risk Information:
Investing involves risk, including risk of loss.
Diversification does not ensure a profit or guarantee against loss.
Disclosures:
Index or benchmark performance presented in this document does not reflect the deduction of advisory fees, transaction charges, or other expenses, which would reduce performance. Indexes are unmanaged. It is not possible to invest directly in an index. Any investor who attempts to mimic the performance of an index would incur fees and expenses that would reduce return.
This document is a general communication being provided for informational purposes only. It is educational in nature and not designed to be taken as advice or a recommendation for any specific investment product, strategy, plan feature, or other purpose in any jurisdiction, nor is it a commitment from Raymond James Investment Management or any of its affiliates to participate in any of the transactions mentioned herein. Any examples used are generic, hypothetical, and for illustration purposes only. This material does not contain sufficient information to support an investment decision, and you should not rely on it in evaluating the merits of investing in any securities or products. In addition, users should make an independent assessment of the legal, regulatory, tax, credit, and accounting implications and make their own determinations together with their own professionals in those fields. Any forecasts, figures, opinions, or investment techniques and strategies set out are for information purposes only, based on certain assumptions and current market conditions, and are subject to change without prior notice. All information presented herein is considered to be accurate at the time of production, but no warranty of accuracy is given and no liability in respect of any error or omission is accepted. It should be noted that investment involves risks, the value of investments and the income from them may fluctuate in accordance with market conditions and taxation agreements, and investors may not get back the full amount invested. Both past performance and yields are not reliable indicators of current and future results.
The views and opinions expressed are not necessarily those of the broker/dealer or any affiliates. Nothing discussed or suggested should be construed as permission to supersede or circumvent any broker/dealer policies, procedures, rules, and guidelines.
Sector investments are companies engaged in business related to a specific sector. They are subject to fierce competition and their products and services may be subject to rapid obsolescence. There are additional risks associated with investing in an individual sector, including limited diversification.
Investing in small cap stocks generally involves greater risks, and therefore, may not be appropriate for every investor. The prices of small company stocks may be subject to more volatility than those of large company stocks.
International investing presents specific risks, such as currency fluctuations, differences in financial accounting standards, and potential political and economic instability. These risks are further accentuated in emerging market countries where risks can also include possible economic dependency on revenues from particular commodities or on international aid or development assistance, currency transfer restrictions, and liquidity risks related to lower trading volumes.
Definitions
Breadth describes the relationship between the median and the mean of a market index. When a few data outliers result in a mean that is substantially larger (or smaller) than the median of the full data set, then the performance of the entire index is being driven by a “narrow” selection of companies. An index supported by “broad” market movements is one where the median is closer to the mean.
A breakout takes place when an index level or asset price rises above a resistance level (a price point that the metric in question has had trouble exceeding in the time period being considered) or a drops below a support level (the price at which buyers tend to enter the market).
Consolidation is a term used in technical analysis to describe when stocks reverse previous gains (or losses) to stay within well-defined trading levels.
Core PCE, officially known as the Personal Consumption Expenditures (PCE) excluding Food and Energy, Price Index, is a measure of the prices that U.S. consumers pay for goods and services, not including two categories – food and energy – where prices tend to swing up and down more dramatically and more often than other prices. The core PCE price index, released monthly by the U.S. Department of Commerce Bureau of Economic Analysis, measures inflation trends and is watched closely by the U.S. Federal Reserve as it conducts monetary policy.
Correlation is a statistic that measures the degree to which two securities move in relation to each other.
A credit spread is the difference in yield between a U.S. Treasury bond and another debt security with the same maturity but different credit quality. Also referred to as “bond spreads” or “default spreads,” credit spreads are measured in basis points, with a 1% difference in yield equaling a spread of 100 basis points. Credit spreads reflect the risk of the debt security being compared with the Treasury bond, which is considered to be risk-free. Higher quality securities have a lower chance of the issuer defaulting. Lower quality securities have a higher chance of the issuer defaulting.
Cyclical stocks have prices influenced by macroeconomic changes in the economy and are known for following the economy as it cycles through expansion, peak, recession, and recovery.
Defensive stocks provide consistent dividends and stable earnings regardless of whether the overall stock market is rising or falling. Companies with shares considered to be defensive tend to have a constant demand for their products or services and thus their operations are more stable during different phases of the business cycle.
Earnings per share (EPS) is calculated as a company’s profit divided by the outstanding shares of its common stock. The resulting number serves as an indicator of a company’s profitability.
The Federal Open Market Committee (FOMC) consists of 12 members: the seven members of the Board of Governors of the Federal Reserve System; the president of the Federal Reserve Bank of New York; and four of the remaining 11 Reserve Bank presidents, who serve one-year terms on a rotating basis. The FOMC holds eight regularly scheduled meetings per year at which it reviews economic and financial conditions, determines the appropriate stance of monetary policy, and assesses the risks to its long-run goals of price stability and sustainable economic growth.
The Federal Reserve Bank of Philadelphia’s Manufacturing Business Outlook Survey is a monthly survey in which manufacturers in the Third Federal Reserve District, which includes Pennsylvania, New Jersey, and Delaware, indicate the direction of change in overall business activity and in various measures of activity at their plants: employment, working hours, new and unfilled orders, shipments, inventories, delivery times, prices paid, and prices received.
Fiscal policy refers to the tax collection and spending a government uses to influence its country’s economy.
Gross domestic product (GDP) is the total value of goods and services provided in an economy during a specified period, often one year.
A hedge is an investment or investment strategy that is designed to lessen the potential for losses in other investments. The price of an investment considered to be a hedge often moves in the opposite direction of the prices of the investments being hedged.
High-yield bonds pay higher interest rates because they have lower credit ratings than investment-grade bonds. High-yield bonds have credit ratings below BBB- from Standard & Poor’s or below Baa3 from Moody’s.
Implied correlation is a measure of how closely the components of a given index track against one another.
Market capitalization, or market cap, refers to the total dollar market value of a company’s outstanding shares of stock.
Money center banks are large banks situated in economic hubs that primarily deal with governments, other banks, and big corporations.
A multiple, sometimes referred to as the price multiple or earnings multiple, is a measure of a company’s value based on the ratio of its current share price to its earnings per share. This ratio is known as the price-to-earnings ratio, or P/E.
Overweight describes a portfolio position in an industry sector or some other category that is greater than the corresponding weight level in a benchmark portfolio.
Price-to-earnings (P/E) ratios measure a company’s current share price relative to its earnings per share. The ratio is used to help assess a company’s value and is sometimes referred to as the price multiple or earnings multiple.
The Purchasing Managers’ Index (PMI), produced by the Institute for Supply Management (ISM), measures the prevailing direction of economic trends in the manufacturing sector. It consists of an index summarizing whether market conditions as reported in a monthly survey of supply chain managers are expanding, staying the same, or contracting.
Reshoring describes an effort to bring manufacturing and other services back to the United States from overseas operations.
Reversion to the mean, or mean reversion, refers to the statistical tendency of data to rise or fall toward its long-term average over time.
Stagflation, first described after the oil shocks of the 1970s, is an economic condition that includes slow economic growth (or even declines in gross domestic product), relatively high unemployment, and inflation.
Sticky is a term used to describe measured data that is slow to change, in contrast to faster-changing or more variable data.
A yield curve is a line that plots yields (interest rates) of bonds having equal credit quality but differing maturity dates. The slope of the yield curve gives an idea of future interest rate changes and economic activity. A steepening yield curve results from a widening in the difference between short- and long-term interest rates. A steepening curve often reflects an expectation of stronger economic activity, rising inflation and rising interest rates.
Indices
The S&P 500 Index measures change in stock market conditions based on the average performance of 500 widely held common stocks. It is a market-weighted index calculated on a total return basis with dividend reinvested. The S&P 500 represents approximately 80% of the investable U.S. equity market.
The Chicago Board Options Exchange (CBOE) 3-Month Implied Correlation Index, a gauge of herd behavior, reflects the market’s expectation of future diversification. It measures the average expected correlation benefits over a three-month window between the top 50 stocks in the S&P 500 Index.
The MSCI EAFE® (Net) Index measures the performance of performance of large and mid-cap securities across 21 developed markets, including countries in Europe, Australasia and the Far East, excluding the U.S. and Canada. The MSCI EAFE® (Net) Index subtracts any foreign taxes applicable to US citizens but not applicable to citizens in the overseas country.
The Russell 2000® Index measures the performance of the 2,000 smallest companies in the Russell 3000® Index, which represents approximately 7% of the total market capitalization of the Russell 3000® Index.
The STOXX® Europe 600 Index represents 600 large-, mid- and small-capitalization companies across 17 European countries: Austria, Belgium, Denmark, Finland, France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Norway, Poland, Portugal, Spain, Sweden, Switzerland, and the United Kingdom.
London Stock Exchange Group plc and its group undertakings (collectively, the “LSE Group”). ©LSE Group 2024. FTSE Russell is a trading name of certain of the LSE Group companies. Russell® is a trademark of the relevant LSE Group companies and is used by any other LSE Group company under license. All rights in the FTSE Russell indexes or data vest in the relevant LSE Group company which owns the index or the data. Neither LSE Group nor its licensors accept any liability for any errors or omissions in the indexes or data and no party may rely on any indexes or data contained in this communication. No further distribution of data from the LSE Group is permitted without the relevant LSE Group company’s express written consent. The LSE Group does not promote, sponsor, or endorse the content of this communication.
M-648049 Exp. 3/25/2025
Politics are likely to remain front and center in the coming weeks, but investor focus could eventually return to the positive macro backdrop that underpins the current bull market.
Economic data released last week suggests that concerns over a hard landing may have been exaggerated.
The move in interest rates continues to stand out. The 10-year U.S. Treasury yield has surged since the September Federal Open Market Committee meeting, when the interest rate cutting cycle commenced.
If the market partied hard following U.S. election results with the S&P 500 Index posting its best week of the year, then last week was the hangover. Bond yields continued their rise, attributable to either investors repricing the odds of a recession or by expectations for the potential for inflationary fiscal policy under a new presidential administration.1
“Last week had a significant amount of news for investors to digest and incorporate into an already complex narrative,” said Matt Orton, CFA, Chief Market Strategist for Raymond James Investment Management. “Increased uncertainty — whether from the U.S. Federal Reserve (Fed), the continued rise in rates, new presidential cabinet appointees, or European politics — added to the hangover headache.”
“I suspect that politics will remain front and center over the coming weeks as more appointees are named by U.S. President-elect Donald Trump. But I believe that at some point, investor focus will return to the positive macro backdrop that underpins the current bull market,” Orton said.
Earnings season is nearly complete, and once again, results have come in ahead of expectations. “The broadening trend has continued, and all of last week’s data releases confirm the resiliency of the U.S. economy, suggesting that concerns over a hard landing have been exaggerated,” Orton said. He also noted that governments dominated by a single political party have led to double-digit market gains one year later, although the path higher is usually more volatile.
“There are certainly some risks to the market in the near term, particularly from the relentless increase in interest rates,” Orton said, “but I would still consider market consolidations to be buying opportunities, depending on an investor’s individual situation.”
From its best week of the year to down 2%... S&P 500 Index weekly gains year-to-date
Source: Bloomberg as of Nov. 15, 2024
“The move in rates continues to stand out as I think through the market’s risk/reward tradeoffs heading into year end,” Orton said. “So far, the market has been able to weather higher rates fairly well.” The 10-year U.S. Treasury yield has surged nearly 85 basis points since the September Federal Open Market Committee meeting and the start of its interest rate cutting cycle. “The market was clearly ahead of itself in pricing aggressive rate cuts through the end of 2025, and I would argue that much of the recent move higher in yields was simply the repricing of recession odds,” Orton said.
“If you look at the strength in cyclicals and how commodities behaved after yields bottomed, it’s easy to argue that rates may be moving up for the right reasons,” Orton said. “However, I believe the recent rise in yields is something more than that.” Investors may be pricing in the potential for inflationary fiscal policy under a new presidential administration.
Orton said that if the 10-year U.S. Treasury yield pushes past 4.5%, it could put increased pressure on equities, particularly for some of the cyclical parts of the market that rallied strongly after the election. He believes that the fundamental backdrop for small-cap companies is improving, but the move in yields is likely to constrain their performance.
Last week, Fed Chair Jerome Powell’s prepared remarks suggested that more rate cuts are coming, but the Fed may be slower to implement them. “There is a substantial risk that the Fed will keep rates unchanged at the upcoming December meeting,” Orton said. “While a 25 basis point cut remains my base case for December, there are risks building for a higher terminal rate.”
Orton said that a higher interest-rate environment warrants paying careful attention to the performance of cyclical domestic equities and momentum trades, particularly given increasing valuations and more crowded positioning after the U.S. election.
“As we look for any changes in the character of the current bull market, I continue to come back to the importance of focusing on the bipartisan investment themes we highlighted prior to the election,” Orton said. “Many of the Trump 2.0 trades were pulled forward last week, but I prefer leaning into long-term secular growth investment themes that have much more clarity around being implemented.” That includes companies exposed to reshoring trends, playing offense with defense companies, and capital expenditure (capex) winners from the artificial intelligence (AI) buildout. Orton said that last week’s pullback in some of these trades could be an interesting entry point.
“Semiconductor companies, generally, have been under pressure. Third-quarter earnings details from Nvidia — the largest company in the world by market capitalization— could either provide a much-needed broad lift or further pressure the space,” Orton said. He remains neutral on duration until investors get more information on future economic data and Trump’s mix of policies. In the meantime, Orton favors U.S. small-cap companies, cyclical companies, and global banks.
Cyclicals still have room to run. Cyclical companies, excluding technology stocks, have enjoyed stronger performance relative to their defensive counterparts since the mid-September low in U.S. bond yields. But Orton said that their gains have been less than their beta would suggest, which implies that they could advance further. They could also benefit from pro-growth policies.
Small caps remain attractive. U.S. small-cap earnings were good, but guidance has inflected higher. Orton said that the valuations of these companies still look attractive relative to large-cap companies, and he believes that the asset class is significantly under-owned.
Global banks. Orton said that bank profitability has held up well and the U.S. credit default cycle looks to have peaked. The eurozone has seen pockets of economic resilience, especially in the periphery. These banks have performed well year to date, and Orton believes that their strong performance could continue.
Orton also considered whether it is time to be a contrarian on international equities:
The performance of U.S. equities accelerated after the elections, and Orton said he has a bias in favor of the United States. “Earnings have been much better domestically, with more than 70% of companies in the S&P 500 Index not only beating their top-line forecasts, but also reporting earnings that came in ahead of consensus estimates,” Orton said. He also said that China’s slowdown continues to impact many companies overseas, particularly in Europe. Fear of Trump administration policies have led to investor outflows from China and concerns around the country’s economic growth projections.
Despite these headwinds, Orton thinks there are some reasons to be contrarian right now. “Investors should be looking for ways to better balance portfolios heading into 2025,” he said. “Allocations to international developed equities are underweight, valuations remain quite attractive — even after adjusting for sectors — and the consensus sentiment is poor.” He added that investors are placing no premium on any further China stimulus and showing an underappreciation for looser monetary policy everywhere except in Japan.
This week will be dominated by the direction of interest rates and third quarter earnings reported by Nvidia, the largest company in the world by market capitalization. Orton expects the earnings news to set the tone for the AI trade in the near term.
A light economic calendar will still include updates on the housing market and initial jobless claims. S&P Global Flash US PMI Composite Output Index data will be released on Friday. Speeches are scheduled from Chicago Fed President Austan Goolsbee on Monday and Cleveland Fed President Beth Hammack on Wednesday.
1 Unless otherwise indicated, all data cited is sourced from Bloomberg as of Nov. 15, 2024.
Risk Information:
Investing involves risk, including risk of loss.
Diversification does not ensure a profit or guarantee against loss.
Disclosures:
Index or benchmark performance presented in this document does not reflect the deduction of advisory fees, transaction charges, or other expenses, which would reduce performance. Indexes are unmanaged. It is not possible to invest directly in an index. Any investor who attempts to mimic the performance of an index would incur fees and expenses that would reduce return.
This document is a general communication being provided for informational purposes only. It is educational in nature and not designed to be taken as advice or a recommendation for any specific investment product, strategy, plan feature, or other purpose in any jurisdiction, nor is it a commitment from Raymond James Investment Management or any of its affiliates to participate in any of the transactions mentioned herein. Any examples used are generic, hypothetical, and for illustration purposes only. This material does not contain sufficient information to support an investment decision, and you should not rely on it in evaluating the merits of investing in any securities or products. In addition, users should make an independent assessment of the legal, regulatory, tax, credit, and accounting implications and make their own determinations together with their own professionals in those fields. Any forecasts, figures, opinions, or investment techniques and strategies set out are for information purposes only, based on certain assumptions and current market conditions, and are subject to change without prior notice. All information presented herein is considered to be accurate at the time of production, but no warranty of accuracy is given and no liability in respect of any error or omission is accepted. It should be noted that investment involves risks, the value of investments and the income from them may fluctuate in accordance with market conditions and taxation agreements, and investors may not get back the full amount invested. Both past performance and yields are not reliable indicators of current and future results.
The views and opinions expressed are not necessarily those of the broker/dealer or any affiliates. Nothing discussed or suggested should be construed as permission to supersede or circumvent any broker/dealer policies, procedures, rules, and guidelines.
Sector investments are companies engaged in business related to a specific sector. They are subject to fierce competition and their products and services may be subject to rapid obsolescence. There are additional risks associated with investing in an individual sector, including limited diversification.
Investing in small cap stocks generally involves greater risks, and therefore, may not be appropriate for every investor. The prices of small company stocks may be subject to more volatility than those of large company stocks.
International investing presents specific risks, such as currency fluctuations, differences in financial accounting standards, and potential political and economic instability. These risks are further accentuated in emerging market countries where risks can also include possible economic dependency on revenues from particular commodities or on international aid or development assistance, currency transfer restrictions, and liquidity risks related to lower trading volumes.
Definitions
Basis points (bps) are measurements used in discussions of interest rates and other percentages in finance. One basis point is equal to 1/100th of 1%, or 0.01%.
Beta is a measure of the volatility or systemic risk of a security, group of securities, or portfolio compared with the market as a whole.
Breadth describes the relationship between the median and the mean of a market index. When a few data outliers result in a mean that is substantially larger (or smaller) than the median of the full data set, then the performance of the entire index is being driven by a “narrow” selection of companies. An index supported by “broad” market movements is one where the median is closer to the mean.
Capital expenditures, or capex, are monies used by a company to buy, improve, or maintain physical assets such as real estate, facilities, technology, or equipment, and may include new projects or investments.
A consensus estimate is a forecast of a public company’s projected earnings, the results of a particular industry, sector, geography, asset class, or other category, or the expected findings of a macroeconomic report based on the combined estimates of analysts and other market observers that track the stock or data in question.
Cyclical stocks have prices influenced by macroeconomic changes in the economy and are known for following the economy as it cycles through expansion, peak, recession, and recovery.
Defensive stocks provide consistent dividends and stable earnings regardless of whether the overall stock market is rising or falling. Companies with shares considered to be defensive tend to have a constant demand for their products or services and thus their operations are more stable during different phases of the business cycle.
Duration incorporates a bond’s yield, coupon, final maturity, and call features into one number, expressed in years, that indicates how price-sensitive a bond or portfolio is to changes in interest rates. Bonds with higher durations carry more risk and have higher price volatility than bonds with lower durations.
The Federal Open Market Committee (FOMC) consists of 12 members: the seven members of the Board of Governors of the Federal Reserve System; the president of the Federal Reserve Bank of New York; and four of the remaining 11 Reserve Bank presidents, who serve one-year terms on a rotating basis. The FOMC holds eight regularly scheduled meetings per year at which it reviews economic and financial conditions, determines the appropriate stance of monetary policy, and assesses the risks to its long-run goals of price stability and sustainable economic growth.
Fund flows, which can be described as inflows or outflows, are the net of all cash inflows and outflows into and out of an investment, asset class, or country. It is typically measured on a quarterly or monthly basis. Investors and others look at the direction of fund flows for indications about the health of specific securities, sectors, or overall markets.
A top-line forecast predicts a company’s future revenue from sales.
Guidance refers statements from the managers of publicly traded companies that indicate whether they expect to realize near-term profits or losses and why.
A “hard landing” occurs when a central bank’s unsuccessful management of interest rates causes a recession.
Headwind is a term used to describe events or market forces that hinder the prospects for performance in an individual investment or group of investments.
Market capitalization, or market cap, refers to the total dollar market value of a company’s outstanding shares of stock.
Momentum investing is a strategy that aims to capitalize on the continuance of an existing market trend. It is a trading strategy in which investors buy securities that are already rising and look to sell them when they look to have peaked. It entails taking long positions on financial instruments with prices trending up and short positions on instruments with prices trending down.
Overweight describes a portfolio position in an industry sector or some other category that is greater than the corresponding weight level in a benchmark portfolio.
Positioning refers to assessments of whether professional investors are, on the whole, bullish or bearish on a particular security, industry, sector, market capitalization or other area of the market, as reflected by the extent to which they are invested in the area of the market in question.
Reshoring describes an effort to bring manufacturing and other services back to the United States from overseas operations.
Secular trends are large-scale and ongoing changes in economies and societies that have the potential to drive broad and lasting economic, technological, social or other kinds of changes.
A terminal rate is the level at which a central bank stops adjusting interest rates — either upward or downward — in its attempts to manage inflation and avoid recession.
A top-line forecast predicts a company’s future revenue from sales.
Trump 2.0 trades are investments that are expected to do well under a second Trump administration.
Underweight describes a portfolio position in an industry sector or some other category that is less than the corresponding weight level in a benchmark portfolio.
Under-owned is a term used to describe investments that are believed to be trading at a level below their intrinsic or fair value due to a lack of demand.
Indices
The S&P 500 Index measures change in stock market conditions based on the average performance of 500 widely held common stocks. It is a market-weighted index calculated on a total return basis with dividend reinvested. The S&P 500 represents approximately 80% of the investable U.S. equity market.
The S&P Global Flash US PMI Composite Output Index is produced by S&P Global and is based on original survey data collected from a representative panel of around 800 companies based in the U.S. manufacturing and service sectors. The flash estimate is based on around 85% of total PMI survey responses each month and is designed to provide an accurate advance indication of the final PMI data.
M-645145 Exp. 3/18/2025
This week, investors will be watching U.S. election results and the November Federal Open Market Committee meeting.
Although volatility has been elevated across asset classes, the fundamental drivers of lower volatility could come back into focus after key catalysts are passed this week.
Earnings growth, strong corporate margins, and a U.S. Federal Reserve that is unlikely to pause interest rate cuts until 2025 could all create a constructive backdrop for risk assets.
“It might be a bit of hyperbole to call this week pivotal for the direction of markets going forward, but there is a lot going on,” said Matt Orton, CFA, Chief Market Strategist at Raymond James Investment Management.
Interest rates have continued to push higher heading into a big week — the U.S. election is on Tuesday, followed by the U.S. Federal Reserve’s (Fed’s) penultimate Federal Open Market Committee (FOMC) meeting for the year.1
Orton said that investor concerns are manifesting as slower inflows to equities, bigger moves responding to earnings results, and elevated volatility across asset classes.
“I certainly appreciate the reluctance to add risk in front of this week’s major events,” he said, “but I strongly believe that there is scope for the year-to-date rally to continue, with broadening participation, following these events.” Investor positioning is well off the summer’s highs, which is consistent with prior election cycles that saw lower risk-taking ahead of voting, followed by post-election inflows.
“We also cannot lose sight of the fundamentals,” Orton said. Earnings growth has been strong across several sectors, including financials, consumer discretionary, information technology, communication services, real estate, and utilities, which have all contributed to earnings growth for the S&P 500 Index. Corporate margins remain strong, and recent economic data also continues to support the soft-landing narrative. That includes last Friday’s payroll report, which Orton said was much more nuanced than its headline number suggested.
Add to this backdrop a Fed that is unlikely to pause interest rate cuts until 2025, and Orton said it creates a very constructive backdrop for risk assets. “It can be difficult to tune out the noise around the upcoming election, but there are plenty of opportunities to think about focusing on long-term, durable themes based on fundamentals,” he said.
S&P 500 third quarter earnings per share growth versus FactSet consensus expectations
Source: Bloomberg as of Nov. 1, 2024
The numbers in parentheses indicate the number of companies that have reported third-quarter earnings so far, followed by the total number of companies in each category.
Orton said the current interest rate environment is one of the most common subjects that clients have brought up over the past month. They want to know whether he worries about the move higher in rates and how the election results could change their trajectory.
“Putting the election aside, the consistent and meaningful resurgence of yields over the past few months has certainly stood out,” Orton said. The 10-year U.S. Treasury yield has gained more than 75 basis points since the September FOMC meeting and the start of the rate cutting cycle. “The market was clearly ahead of itself in pricing aggressive rate cuts through the end of 2025,” he said, “and I would argue that much of the recent move higher in yields is simply the repricing of recession odds.”
Orton said it’s easy to argue that rates are moving up for the right reasons when looking at the strength in cyclicals and how commodities are behaving since yields bottomed.
“Although there has been some deterioration in market breadth, it’s nothing like we saw earlier this year,” he said. Strong earnings results across most sectors have helped. “Part of this moderation in breadth is also due to more rate-sensitive sectors naturally taking a breather after strong performance over the past few months.”
Orton expects the Fed to cut by 25 basis points on Thursday, which could help slow or reverse rising trends in interest rates. “If we see financial conditions tighten meaningfully from here, or if rates don’t pause or slow their march higher, it could lead to some opportunities with weakness across equities,” he added.
The U.S. economy has been tough to read in 2024. The market narrative oscillated from focusing on inflation re-acceleration risks in the spring to recession fears in the summer and has turned to unexpected economic resilience over the last couple of months.
“I believe the October nonfarm payroll data reinforces that the underlying trend is still best described as a soft landing for the U.S. economy,” Orton said. October’s gain in nonfarm payrolls reflects significant setbacks from hurricanes and labor strikes. “It’s likely we see a snapback in November — and October data may be revised upward — but the weight of evidence points to a gradually softening job market, not one that is rapidly deteriorating or is consistent with recession.”
Orton said that after accounting for weather impacts, the labor market and hiring generally remain in a good place. Downward revisions to jobs numbers could reduce the chance of a no-landing scenario for the economy. He said he expects the October employment data to keep the Fed on track for normalizing monetary policy with 25-basis point cuts in November and December. After that, he said Fed cuts may switch to an every-other-meeting cadence.
The S&P 500 Index could post its third-best election year performance since 1928, which would be its 17th-best year over that same period.
“November seasonality also tends to support further market gains, especially in election years,” Orton said. “While mega-cap technology and artificial intelligence (AI) companies continue to be a major source of earnings growth, we’re seeing strength across a much wider range of sectors.”
“All those recessionistas — who said to look through good earnings, believing that sales couldn’t possibly grow because the economy was about to plunge into recession — appear to have left some chips on the table,” Orton said. “There are certainly risks, but I believe the risk/reward tradeoff still looks favorable in this environment. Economic growth is resilient, economic surprises are inflecting higher, and the biggest known volatility events are passing this week.”
Orton sees plenty of opportunities across the market, and he continues to recommend that investors consider using downside opportunistically to explore leaning into improving breadth, consistent with several key themes:
Volatility compression. Heading into this week’s election, volatility is elevated across asset classes. “I expect to see volatility compression once we have a handle on the results, regardless of the outcome,” Orton said. “Treasuries were oversold coming into this week, and rates-derivatives traders have placed wagers all over the map to bet on higher volatility.” He said he expects volatility will begin stabilizing when options strategies unwind after the election and the FOMC meeting. In equities, the Chicago Board Options Exchange (CBOE) Volatility Index (VIX) increased 21% from Oct. 18 to Nov. 1. All of the fundamental drivers of lower volatility could come back into focus after key catalysts are passed this week. “As long as a ‘blue wave’ is avoided, I believe the path of least resistance is for stocks to trade higher and for volatility to compress,” Orton said.
The upside of cyclicals. Elections aside, Orton argued that the most important drivers for equities heading into the end of the year are earnings outlooks and the path of macroeconomic data. “Recent earnings and macro data have both been encouraging,” he said. “To date, third-quarter earnings season has been reassuring after a solid second quarter.” Orton said that in prior election cycles, data from the Institute for Supply Management tended to show a downward bias going into Election Day and a trend higher afterward. Given supportive earnings data and the macroeconomic backdrop, Orton said he continues to favor the industrial sector, particularly in the electrical equipment industry exposed to strong AI growth trends, and banks and capital markets exposure within financials and small-cap equities.
International diversification. Orton said he favors considering remaining overweight to U.S. equities, but notes that there have been selective opportunities across global markets. “India has been an incredibly strong performer over the past few years, European markets are sitting close to all-time highs, and even China has surged out of a multi-year downtrend,” he said. Earnings overseas have generally been strong. Europe in particular stands out — third-quarter earnings per share (EPS) growth for the MSCI Europe Index has been 5% year over year, well ahead of expectations after sharp cuts to consensus estimates going into the season. “The main driver of the upside surprise in Europe has been better earnings for financials,” Orton said, “particularly for banks, where year-over-year EPS growth has come in at 19%.” Orton said he continues to like European financial companies to complement U.S. financial exposure, generally favoring cyclical companies over defensive ones. He also believes that some of the short-term weakness across the emerging market complex could present interesting opportunities to consider for investors who still don’t have any exposure.
Bipartisan investment themes. Rather than picking specific baskets based on who investors think will win, Orton said it makes more sense to think about leaning into what he describes as “bipartisan” investment themes supported by strong long-term, durable secular growth drivers. (A recently published paper from Raymond James Investment Management goes into more detail.) Key themes include leaning into companies exposed to reshoring trends, playing offense with defense companies, and leaning into capital expenditure (capex) winners from the AI buildout.
Tuesday’s U.S. election is the week’s main event, concluding a season that has had plenty of twists and turns. The November FOMC meeting will convene on Wednesday, and policymakers will announce their decision on Thursday. Earnings season also continues with some larger consumer and technology companies set to report. Overseas, China’s top legislative body will meet from Nov. 4–8, reviewing financial work and proposed laws on resources and anti-money-laundering measures. Fiscal stimulus isn’t on the agenda, but investors will watch closely for any hints of support to revive China’s slowing economy.
1 Unless otherwise indicated, all data cited is sourced from Bloomberg as of Nov. 1, 2024.
Risk Information:
Investing involves risk, including risk of loss.
Diversification does not ensure a profit or guarantee against loss.
Disclosures:
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Sector investments are companies engaged in business related to a specific sector. They are subject to fierce competition and their products and services may be subject to rapid obsolescence. There are additional risks associated with investing in an individual sector, including limited diversification.
Investing in small cap stocks generally involves greater risks, and therefore, may not be appropriate for every investor. The prices of small company stocks may be subject to more volatility than those of large company stocks.
International investing presents specific risks, such as currency fluctuations, differences in financial accounting standards, and potential political and economic instability. These risks are further accentuated in emerging market countries where risks can also include possible economic dependency on revenues from particular commodities or on international aid or development assistance, currency transfer restrictions, and liquidity risks related to lower trading volumes.
Definitions
Basis points (bps) are measurements used in discussions of interest rates and other percentages in finance. One basis point is equal to 1/100th of 1%, or 0.01%.
Blended earnings per share (EPS) are blended earnings combine actual results for companies that have reported earnings and estimated results for companies that have yet to report.
“Blue wave” is a term used to describe U.S. election results that give the Democratic Party control over the executive and legislative branches of government.
Breadth describes the relationship between the median and the mean of a market index. When a few data outliers result in a mean that is substantially larger (or smaller) than the median of the full data set, then the performance of the entire index is being driven by a “narrow” selection of companies. An index supported by “broad” market movements is one where the median is closer to the mean.
Capital expenditures, or capex, are monies used by a company to buy, improve, or maintain physical assets such as real estate, facilities, technology, or equipment, and may include new projects or investments.
A consensus estimate is a forecast of a public company’s projected earnings, the results of a particular industry, sector, geography, asset class, or other category, or the expected findings of a macroeconomic report based on the combined estimates of analysts and other market observers that track the stock or data in question.
Cyclical stocks have prices influenced by macroeconomic changes in the economy and are known for following the economy as it cycles through expansion, peak, recession, and recovery.
Defensive stocks provide consistent dividends and stable earnings regardless of whether the overall stock market is rising or falling. Companies with shares considered to be defensive tend to have a constant demand for their products or services and thus their operations are more stable during different phases of the business cycle.
Earnings per share (EPS) is calculated as a company’s profit divided by the outstanding shares of its common stock. The resulting number serves as an indicator of a company’s profitability.
The Federal Open Market Committee (FOMC) consists of 12 members: the seven members of the Board of Governors of the Federal Reserve System; the president of the Federal Reserve Bank of New York; and four of the remaining 11 Reserve Bank presidents, who serve one-year terms on a rotating basis. The FOMC holds eight regularly scheduled meetings per year at which it reviews economic and financial conditions, determines the appropriate stance of monetary policy, and assesses the risks to its long-run goals of price stability and sustainable economic growth.
Fund flow is the net of all cash inflows and outflows into and out of a particular financial asset. It typically is measured on a quarterly or monthly basis. Investors and others look at the direction of fund flows for indications about the health of specific securities and sectors or the overall market.
The Institute for Supply Management produces several surveys assessing business conditions and outlooks across a variety of industries. They include the ISM Purchasing Managers’ Index (PMI), which measures the prevailing direction of economic trends in the manufacturing sector, and the Services ISM® Report on Business®, which is based on data compiled from purchasing and supply executives and reflects the change, if any, in the current month compared to the previous month in supplier deliveries along with seasonally adjusted business activity, new orders, and employment.
Market capitalization, or market cap, refers to the total dollar market value of a company’s outstanding shares of stock.
Mega-cap tech stocks are the technology companies with market capitalizations that are in the trillions or hundreds of billions of U.S. dollars, levels that far exceed many of the other stocks in the S&P 500 Index.
Overweight describes a portfolio position in an industry sector or some other category that is greater than the corresponding weight level in a benchmark portfolio.
The payroll report, officially known as the Employment Situation Summary, is a monthly U.S. Bureau of Labor Statistics (BLS) report tracking nonfarm payroll employment and the national unemployment rate, with data on changes in average hourly earnings, and job trends in public and private sectors of employment. The report is based on surveys of households and employers.
Positioning refers to assessments of whether professional investors are, on the whole, bullish or bearish on a particular security, industry, sector, market capitalization or other area of the market, as reflected by the extent to which they are invested in the area of the market in question.
Reshoring describes an effort to bring manufacturing and other services back to the United States from overseas operations.
Risk assets refer to investments such as equities, commodities, high-yield bonds, real estate, and currencies, where the value may rise or fall due to fluctuating interest rates, changes in credit quality, default risks, supply and demand disruption, and other factors.
Seasonality refers to predictable changes that occur over a one-year period in a business, market, market sector, or economy based on the season, including calendar or commercial seasons.
Secular trends are large-scale and ongoing changes in economies and societies that have the potential to drive broad and lasting economic, technological, social or other kinds of changes.
A “soft landing” occurs when a central bank successfully adjusts interest rates to reduce inflation and slow economic growth while avoiding a recession. A “hard landing” occurs when a central bank’s unsuccessful management of interest rates causes a recession. The term “no landing” is sometimes used to describe situations where inflation remains elevated and economic growth continues while central banks leave interest rates unchanged.
Unwinding describes the process of closing out what is often a large or complicated trading position.
Volatility compression can be used to refer to a reduction in volatility.
Indices
The Chicago Board Options Exchange (CBOE) Volatility Index, or VIX, is a real-time market index that represents the market’s expectation of 30-day forward-looking volatility. Derived from the price inputs of the S&P 500 index options, it provides a measure of market risk and investors’ sentiments.
The S&P 500 Index measures change in stock market conditions based on the average performance of 500 widely held common stocks. It is a market-weighted index calculated on a total return basis with dividend reinvested. The S&P 500 represents approximately 80% of the investable U.S. equity market.
The Nasdaq Composite Index is the market capitalization-weighted index of over 2,500 common equities listed on the Nasdaq stock exchange.
M-637762 Exp. 2/25/2025
