Source: Platinum Portfolios Quarterly Newsletter (Q4 2023)
After a surprisingly resilient 2023, the U.S. economy faces slower growth and increasing vul-nerability in 2024. Key sectors like business and consumer spending are set to cool, fuelled by cautious lending and tighter labour markets. While inflation has eased, the Fed’s rate hikes may not be over, and a slower economy will be increasingly sensitive to shocks. Whether it be the U.S. election, significant geopolitical tension or a surprise from the Fed, risks remain that could push the economy into recession in 2024.
Companies and earnings: Earnings growth surprised on the upside in 2023, but defending margins will be tough in slower economic times. Revenues were the largest contributor to earnings, with consumer strength and pricing power allowing companies to boost sales. Tail-winds from AI spending as well as federal government support for semi-conductor manufac-turing should continue in 2024. However, increased caution among lenders and slowing cor-porate profits could still constrain growth in capital expenditures. Margins, however, have de-tracted from earnings as companies grappled with higher input and labour costs. Looking to 2024 and 2025, expectations for double-digit earnings growth seem too optimistic as defend-ing profit margins will become increasingly difficult in an environment of slowing economic growth and waning pricing power. We believe that, high-quality companies with strong bal-ance sheets, ample cash balances and sustainable earnings should perform well relative to the broader index.
Inflation: After peaking in 2022, inflation is falling and could reach the Fed’s target by mid-2024, easing pressure for further rate hikes.
Fed: The July 2023 rate hike has likely marked the peak of this cycle. December’s unchanged rates and dovish forward guidance solidified this view.
Global economy a mixed picture: While the Eurozone, UK, Canada, and China faltered, the U.S., Japan, and emerging markets (except China) exhibited strength. China’s weak consum-er and business confidence, compounded by limited impact of stimulus measures, weighed on the Eurozone, which also grappled with weak domestic consumption and manufacturer pessimism. Elsewhere, India continues to see robust growth, supported by its growing middle class and government support for private businesses and digitalization. This divergence in global growth is expected to narrow in 2024, with the U.S. economy slowing down and Chi-na’s economy stabilizing.
Stock markets beyond the mega-caps: U.S. equities rebounded in 2023, recouping much of their 2022 losses. This rally stemmed from better-than-expected consumer spending, resilient corporate earnings, and the AI buzz. However, the gains were concentrated in the largest stocks in the index by market-cap. Market concentration is not a new phenomenon and the weight of the top ten stocks in the S&P 500 has been rising since 2016. The earnings contribu-tion from those stocks, however, has not kept pace and hardly budged last year despite strong price appreciation. The fact that the top ten stocks make up a third of the index but only account for a fifth of index earnings suggests significant mispricing in the stock market.
In Conclusion: The U.S. economy is entering a new chapter in 2024. While growth is expected to remain positive, the pace will slow down. Inflation seems under control, but the Fed re-mains cautious. The global picture remains mixed. In environments like these, active manage-ment is best suited to identify those companies with sustainable, high-quality earnings that are being overlooked by the markets.