Welcome to the 2024 update on the markets. It’s July 18th, 2024. Despite a backdrop of increased macro, political, and economic uncertainty, investors may feel like they had a good start to 2024. After all, the S&P is up 15% through June. At least the headlines keep telling us that new highs are being created all around the globe. Japan, for example, is up over 13%, levels in the Nikkei not seen in three decades.
Welcome to the 2024 update on the markets. It's July 18th, 2024. Despite a backdrop of increased macro, political, and economic uncertainty, investors may feel like they had a good start to 2024. After all, the S&P is up 15% through June. At least the headlines keep telling us that new highs are being created all around the globe. Japan, for example, is up over 13%, levels in the Nikkei not seen in three decades.
But despite these headlines, the reality to returns this year is much more nuanced. Chief among assets with paltry returns year-to-date through June is bonds, which are slightly negative. Another slightly negative performer year-to-date is small-cap stocks, both US and non-US. And while the S&P returned 15%, the average stock in the index returned just 5%. Now, July so far is shaping up to be a much broader market with small-cap, for example, leading the way and large-cap tech seeing some bumps. We'll see if this lasts and if it does, it will provide a nice fundamental backdrop to the markets.
So what's going on? Well, let's start with the equity market. At the risk of sounding like a broken record, once again, the market year-to-date through June has rewarded large-cap growth companies at the expense of all other parts of the market. Large growth returned over 20%, while large value is up 6%. Much of the current euphoria has been fed by the AI craze. I am not going to say that AI isn't going to be a revolutionary technology much like the internet was three decades ago, but as with most new technologies, hype will be followed by the reality of making money. Right now, very few players make money at or with AI. There is a booming CapEx, especially related to data centers to enable computational needs, but those that are making money as opposed to spending money on AI are not ubiquitous. And just as many internet companies flamed out after the markets rewarded them for the number of eyeballs on a site. Yes, that really was valuation metric in the dotcom bubble. We have to be careful to not get caught up in the eventual versus the today stories.
The good news for the markets is we have seen execution rewarded in stock prices of late and earnings have been generally good, which does support valuations which are currently healthy for large cap, less so for small cap, and with wide divergence between companies and sectors. Outside the US, developed markets are also a mosaic of positive improving momentum, think UK or Japan, and declining momentum, think France. Emerging markets are no different, with India performing well and in the June quarter, Korea and Taiwan, think technology. They sprinted forward while other areas of the world like Latin America slid amidst election results and the political uncertainties that have resulted.
Speaking of political uncertainties, in our year-end outlook, we pointed out that 2024 would be characterized by the largest number of people electing new governments than ever seen in a one-year period of time. This backdrop has continued to feed volatility. And with the latest France snap elections and the UK going back to the Labor Party for the first time in decades, well let's not even get into the US landscape.
So what about fixed income? The Bloomberg US Aggregate Index continues to generate underwhelming performance, as yields climbed and then fell over 50 basis points throughout the last quarter. This was amongst the backdrop of a continued yield curve inversion. But as the higher for longer narrative took hold, the shape of the curve has flattened. By July the 2s-to-10s yield differential, which started the year at close to 40 basis points also narrowed, and this thus flattened the yield curve. This was mostly due to the longer end, a shorts rates didn't change much. Spreads remain tight in the credit space, but investment-grade bonds are attractive, and that is especially from a yield perspective.
Also, to put this year in a little more perspective, don't forget about the huge rally in bonds going into year-end 2023, which provided over a 5% return. As for emerging markets and non-US debt, with heightened global macro risk, one should ask, "Are the spreads today generating enough cushion to invest outside the US, especially when calculating in the currency?" Thanks in part to the ECB, among other central banks who have already cut interest rates, the US has the highest yield at 5% versus any developed market, and versus the emerging markets index, there's a 3% spread. Municipal bonds continue to provide positive tax equivalent yield spreads, with AAA 10-year munis at close to 5% and BBBs at over 6%. These yields are the highest we've seen in over a decade.
Finally, and importantly, real yields and downward-trending inflation support increased bond exposure for investors, with a positive real yield available in the markets today. We continue to favor lowering the volatility of portfolios with fixed income, especially with yields where they are.
A short update on the current state of private markets. Let's start with private credit. So is it the golden age of private credit? Or are we seeing the beginnings of a huge differentiation in the market and managers, given the higher interest rate environment and its impact on balance sheet and asset coverage? Well, this remains to be seen. Currently, the environment of amend and extend is alive and well. We think restructuring and distress management will be a key tenet for capital preservation as well as manager selection.
Real estate continues to be challenged, with this period being the third most significant period of value declines in the 45-year history of the NCREIF Property Index. Interestingly, unlike other period, this time is not preceded nor coincides with a recession. However, the type of real estate will matter as to how challenged the environment is or will be.
Office, of course, is the poster child for problems and areas like industrial and data centers are on the winning side. Little transaction volume continues to make price discovery hard, but income is mostly stable. Infrastructure continues to be attractive amidst both positive fundamentals and a backdrop of positive supply and demand forces.
Private equity has a wide dispersion of performance depending on type, manager, and sectors similar to things we're seeing such as the real estate space. Venture, as an example, we see down rounds continuing with a focus on getting to profitability, and winners and losers are becoming more apparent. In buyout, a focus on strategic deals continues. Generally in the PE area, fundraising is down amidst longer fundraising cycles, as is a continuation of low distribution activity and little in the way of IPOs providing realizations. While we don't yet have a lot of hard data on recent valuation across the privates, suffice it to say that there has been and probably will be a dichotomy of performance of haves and have-nots.
So what about the rest of the year? I think the ultimate question for the markets is when will we get some answers to all the areas of uncertainty? By areas of uncertainty, I mean will inflation continue to decline? Will the labor force continue at the slower yet strong pace we have been seeing? When's the first rate cut? When will the economy roll over or will it? Will this be the first yield curve inversion without a recession associated with it? Well, actually it's not the first, but it's a very unique outcome. What's going to happen with the elections. This is just to name a few.
In the first half, stubborn inflation, a dichotomy of numbers related to economic growth, the consumer and manufacturing, led to a seesaw of emotions. This was reflected in up and down results for stocks and bonds. As we discussed earlier, the average stock did okay. I'll take 5%. And in bonds, we need to focus on the strong yield currently available since over time, the majority of bond returns comes from yield.
But until we get some answers to the above questions, I don't see how we get much difference in the back half of the year. Add to that, in the US we have elections that will be held, and well, what's a girl to do? I think the advice is to stay calm, rebalance your portfolio to target, and focus on your longer-term goals, not this short-term volatility. Thanks for listening and enjoy the dog days of summer.
The information and opinions herein provided by third parties have been obtained from sources believed to be reliable, but accuracy and completeness cannot be guaranteed. This article and the data and analysis herein is intended for general education only and not as investment advice. It is not intended for use as a basis for investment decisions, nor should it be construed as advice designed to meet the needs of any particular investor. On all matters involving legal interpretations and regulatory issues, investors should consult legal counsel.
