Nicolet Wealth Management Monthly Newsletter 5.3.24

Rates Accelerate Higher

Consistent with the trend year-to-date, an upward trajectory of interest rates continues to be the path of least resistance. In April, the 10-year Treasury yield advanced about 0.50%, while the 2-year Treasury yield topped 5% for the first time since November 2023. Higher interest rates are reflecting strong economic activity and sticky inflation. As a result, the expectation for the Federal Reserve target policy went from six, 0.25% cuts in 2024 expected at the beginning of year to just one occurring in December 2024. A pivot in interest rate expectations has been a headwind for fixed income markets this year: the Bloomberg Aggregate index (a proxy for the bond market) has declined -3.3%.

Slower, But Solid Q1 U.S. Growth Print

U.S. Gross Domestic Product (GDP), a quarterly measurement of U.S. economic growth, slowed in the first quarter of 2024. Overall, GDP increased at an 1.6% annualized rate, below the consensus estimate and last quarter’s growth of 3.4%. The largest component of U.S. growth, personal spending, only expanded by 2.5%, slowing from 3.3% the previous quarter. In addition, a wider trade deficit subtracted the most growth since 2022, as goods imports surpassed exports by a wide margin. On a positive note, investment spending was a positive contributor on an expansion of residential construction and non-residential investment being powered by intellectual property spending – artificial intelligence.

Resilient Inflationary Pressure

The Consumer Price Index (CPI), a calculation of price growth, has defied expectations and reflected higher. CPI advanced 3.5% year-over-year in March and 0.4% from a month earlier, with both topping the consensus estimate. Most concerning, inflation not subject to the cyclicality of energy and food led the way. Services inflation accelerated on categories tied to transportation (auto insurance and repairs) and healthcare. The higher-than-expected services inflation print was also supported by shelter prices advancing 0.4%. However, new market rents suggest rents and primary housing should slow during 2024.

Oil Prices Stabilize in April

The international benchmark for oil, Brent crude, was up only modestly in April to a level of $88 per barrel despite rising geopolitical tensions in the Mideast between Israel and Iran. However, much of the price action occurred prior to the escalation of tensions on April 13. Brent crude prices touched a low of $73 a barrel in December 2023, rising to a 2024 high of $91 a barrel on April 5th, with a significant segment of the rally occurring in March. While an expectation of geopolitical tension partly explains the upside in oil prices, the real catalyst behind oil since last year has been improving economic conditions. A broad indicator of manufacturing activity quickly pivoted from contractionary economic growth in November 2023 to an expansionary level in March 2024.

Equity Markets Fall from All-Time Highs

U.S. equity markets quickly reversed after ending the 1st quarter at an all-time high. Large companies declined by -4.1% (S&P 500 index), medium companies dropped by -5.4% (Russell Mid-cap index), and small companies fell by -7% (Russell 2000 index). At one point, the small company index exhibited a decline of more than 8% in April. Stocks reacted negatively to the higher-than-expected inflation data, which changed the expectation of future interest rates. Small companies are more sensitive to a change in interest rates because of a greater reliance on bank loans that reset dependent on the market level of rates. However, higher for longer interest rates typically indicates a strong U.S. economy, which is positive for small companies.

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