Equities
After hitting a short-term low on October 27, 2023, the stock market came to life and rallied into early December. Investors appear to be pricing in the likelihood that inflation can come down to the Federal Reserve’s (Fed) target of near 2% without the economy entering a recession, a so-called soft landing. Some investors bidding stock prices higher during that advance believe the Fed may even reduce its Federal Funds target rate in 2024. ICON is not on that bandwagon.
We have previously stated that we believe the market experienced a theme, or sector leadership, change on May 31, 2023. Since then, the broad market advanced for two months, hitting a short-term peak August 31. Then it dropped for two months in August and September. During the two month advance the leadership was economically sensitive, or cyclical sectors; Energy, Materials, Industrials, Consumer Discretionary and Financials. The so-called defensive, recession proof sectors lagged as did the early 2023 leaders: Information Technology and Communication Services. Investors apparently believed inflation could be reduced without the economy experiencing a recession or, as many call it, “a soft landing.”
The subsequent two month decline during August and September was not as clear cut, driven by the increasing price of oil and the somewhat related rise in long term interest rates. Energy and Financials held up better than average, but Industrials and Materials fell more than the broad market along with Information Technology. Yield sensitive sectors like Real Estate and Utilities suffered the worst drops. It appears investors went from believing a recession could be avoided to being “not so sure” with oil and long-term interest rates adding contracting factors to the tightening of the Federal Reserve.
Our market value/price (V/P) ratio ended the quarter (9/30/23) at 1.03, suggesting stocks, on average, are priced slightly below our estimate of fair value. We did not see the behaviors often seen at market peaks any time in the last two months, and we expect the market to resume its path higher.
Bonds
For about a year, the yield on the ten-year Treasury stayed in a range of roughly 3.4% to 4.2%, even though the Federal Reserve was raising its Federal Funds target rate with T-Bill yields tagging along higher. Lately, with the short-term rates holding about even, the 10-year yield has surged higher driven by two factors independent of the Federal Reserve: higher oil prices and the U.S. Treasury issuance of new debt. We believe both of these factors are short term in nature and not capable of driving long term interest rates higher over the next year. Nevertheless, lately, the idea of selling (or shorting) government bonds has become very popular and attracted the momentum-oriented investors and hedge funds.
As we were not attracted to the long-term end of the yield curve, our fixed income positions have not experienced the full shock of the rate spike. If long term rates keep moving higher, we expect to find them more attractive and extend our duration.
Summary
We are currently seeing a variety of short-term currents that we believe are driving the market, these include: the price of oil, long term treasury yields and constantly changing guesses of whether there will be a recession or soft landing. We try to avoid reacting to those headlines and focus on value and themes. We believe the market can move modestly higher over the next six to 12 months and although we’re holding more cash than normal, we are approaching it with caution.
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The data quoted represents past performance, which is no guarantee of future results. Opinions and forecasts regarding sectors, industries, companies, countries and/or themes, and portfolio composition and holdings, are all subject to change at any time, based on market and other conditions, and should not be construed as a recommendation of any specific security, industry, or sector.
Investing in securities involves inherent risks, including the risk that you can lose the value of your investment. An investment concentrated in sectors and industries may involve greater risk and volatility than a more diversified investment. Investments in international securities may entail unique risks, including political, market, regulatory and currency risks. In general, there is less governmental supervision of foreign stock exchanges and securities brokers and issuers. Investing in fixed income securities such as bonds involves interest rate risk. When interest rates rise, the value of fixed income securities generally decreases.
Individual account holdings and composition may vary. Opinions and forecasts regarding sectors, industries, companies, countries and/or themes, and portfolio composition and holdings, are all subject to change at any time, based on market and other conditions, and should not be construed as a recommendation of any specific security, industry, or sector.
ICON’s value-based investing model is an analytical, quantitative approach to investing that employs various factors, including projected earnings growth estimates and bond yields, in an effort to determine whether securities are over- or underpriced relative to ICON’s estimates of their intrinsic value. ICON’s value approach involves forward-looking statements and assumptions based on judgments and projections that are neither predictive nor guarantees of future results. Value readings are contingent on several variables including, without limitation, earnings, growth estimates, interest rates and overall market conditions. Although valuation readings serve as guidelines for our investment decisions, we retain the discretion to buy and sell securities that fall beyond these guidelines as needed. Value investing involves risks and uncertainties and does not guarantee better performance or lower costs than other investment methodologies.
ICON’s value-to-price ratio is a ratio of the intrinsic value, as calculated using ICON’s proprietary valuation methodology, of a broad range of domestic and international securities within ICON’s system as compared to the current market price of those securities. According to our methodology, a V/P reading of 1.00 indicates stocks are priced at intrinsic value. We believe stocks with a V/P reading below 1.00 are overvalued while stocks with a V/P reading above 1.00 are undervalued. For example, we interpret a V/P reading of 1.15 to mean that for every $1.00 of market value, there is $1.15 of intrinsic value which has not yet been realized in the market price.
The unmanaged Standard & Poor’s Composite 1500 (S&P 1500) Index is a broad-based capitalization-weighted index comprising 1,500 stocks of Large-cap, Mid-cap, and Small-cap U.S. companies. The unmanaged Standard & Poor’s (S&P) SmallCap 600 Index is an unmanaged index of 600 domestic stocks chosen for their market capitalization, liquidity, financial viability, and sector representation. The unmanaged Standard & Poor’s (S&P) 500 Index is a market value-weighted index of large-cap common stocks considered representative of the broad market. The unmanaged Standard & Poor’s (S&P) Composite 1500 Sector Indexes track the performance of sectors that comprise the S&P Composite 1500 Index. Total return figures for the unmanaged sector indexes do include the reinvestment of dividends and capital gain distributions but do not reflect the costs of managing a mutual fund. The Standard and Poor’s (S&P) 1500 Consumer Discretionary Index is an unmanaged capitalization-weighted index comprising companies in the Consumer Discretionary sector as determined by S&P. Total returns for the unmanaged index include the reinvestment of dividends and capital gain distributions beginning on January 1, 2002. Index returns with reinvested dividends and distributions are unavailable prior to that date. The Standard and Poor’s (S&P) 1500 Consumer Staples Index is an unmanaged capitalization-weighted index comprising companies in the Consumer Staples sector as determined by S&P. The Standard and Poor’s (S&P) 1500 Energy Index is an unmanaged capitalization-weighted index comprising companies in the Energy sector as determined by S&P. The Standard and Poor’s (S&P) 1500 Financials Index is an unmanaged capitalization-weighted index comprising companies in the Financials sector as determined by S&P. The Standard and Poor’s (S&P) 1500 Healthcare Index is an unmanaged capitalization-weighted index comprising companies in the Healthcare sector as determined by S&P. The Standard and Poor’s (S&P) 1500 Information Technology Index is an unmanaged capitalization-weighted index comprising companies in the Information Technology sector as determined by S&P. The Standard and Poor’s (S&P) 1500 Materials Index is an unmanaged capitalization-weighted index comprising companies in the Materials sector as determined by S&P. The Standard and Poor’s (S&P) 1500 Industrials Index is an unmanaged capitalization-weighted index comprising companies in the Industrials sector as determined by S&P. Total returns for the S&P 1500 Industrials Index include the reinvestment of dividends and capital gain distributions beginning on January 1, 2002. Index returns with reinvested dividends and distributions are unavailable prior to that date. The Standard and Poor’s (S&P) 1500 Real Estate Index is an unmanaged capitalization-weighted index comprising companies in the Real Estate sector as determined by S&P. The Standard and Poor’s (S&P) 1500 Utilities Index is an unmanaged capitalization-weighted index comprising companies in the Utilities sector as determined by S&P. The Russell 2000 is an unmanaged index comprising common stocks of the 2,000 U.S. public companies next in size after the largest 1,000 publicly traded U.S. companies. Individuals cannot invest directly in an index.
The 10-year yield is the benchmark 10-year yield to maturity reflected by the current issue 10 year U.S. Treasury note.
Sources: Bloomberg
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ICON Insights | December, 2023
