THE K-SHAPED MARKET
The letter K has been used to describe a deviation of outcomes in opposite directions, whether it be economic data, market returns or societal outcomes. If you were to plot the letter K on a chart, the spine of the K is the y-axis, and the x-axis would go through the middle of the letter. One line would be going up and to the right, representing positive economic data, market returns or societal outcomes. The lower line would represent the same. Essentially, you would have opposite outcomes over the same period. This is what we have seen in stocks this year, where 7 stocks have driven most of the returns in markets year-to-date.
BROAD MARKET RETURNS
U.S. Stocks, represented by the S&P 500, seem to indicate that stocks are humming along, and everything is great, right? The “Magnificent 7”, a title created by financial media, have generated 90% of the returns for the S&P 500. The "Magnificent 7" are comprised of Amazon, Apple, Google, Meta (Facebook), Microsoft, Tesla and Nvidia. These stocks are also the largest companies in the S&P 500 index and being a market cap weighted index, they receive the highest weighting in the index.
The other 493 stocks done very little to add any incremental performance to the index. Said another way, if you took all 500 constituents of the S&P 500 and gave them an equal weighting, your total return through the end of the third quarter would be 0.30%. To give us conviction in stocks, we generally like to see broad participation to the upside, which we just do not see in this current market environment.
The chart below showing the price return of the S&P 500 vs. the Equal Weight S&P 500 resembles the chart that we referenced at the beginning of the commentary. In many cases, you tend to see the "alligator jaws" converge, meaning that the top line will trend downward towards the bottom line.
And by the way...bonds haven't proven to be the traditional ballast to portfolios, as many strategists predicted, as the Fed has continued their rate raising regime into 2023. Noted below, bonds are broadly negative, aside from the most risky sector of the market in high yield or "junk" bonds, which pose the highest credit risk in the asset class.
When looking at individual sector returns, you see a similar result. Sectors like Communications Services, which have a nearly 50% weighting towards Facebook and Google in the cap weighted index, posted a return for the first three quarters of 2023 of 37.57% vs. the equal weight index gaining significantly less than that of the cap weighted index, with a return of 6.76% for the first three quarters of the year. The same is true for the Consumer Discretionary and Information Technology sectors where the cap weighted indexes posted 2x to 3x larger returns than their equal weight peers.
ONE LAST POINT…
A final point on the consumer, aside from student loan payments coming back online. Consumer credit card balances have reached an all-time high, eclipsing one trillion dollars. This is in the face of the interest rate on credit cards also at all-time highs, north of 22%. Delinquency rates for Gen-Z and Millennials are at 30-month highs for sub-prime borrowers. 61% of Gen-Z and 47% of millennials have indicated that they are “somewhat or very financially dependent on their parents” according to a Bloomberg poll. A report from CNBC published August 17th, 2023 claims that 401(k) hardship withdrawals are on the rise in 2023. This does not paint a pretty backdrop for the consumer!
While broad markets, and frankly economic data, have continued to surprise to the upside, we feel that a tempered approach to investing is warranted given the confluence of data that we think is going to start working its way through the system starting in the fourth quarter of this year and into 2024. As always, we are happy to answer any questions or talk specifically about your personal situation.
All the best,
Investment Policy Committee