Outlook for 2024
Current Economy: Fundamental and Behavioral
The U.S. economy is exhibiting divergent trends in fundamental terms and behavioral terms.
Economic Fundamentals
Fundamental indicators are trending in the direction of slowing economic activity. First, the index of Leading Economic Indicators (LEI)1/ is a statistical consolidation of ten metrics known to lead economic growth or contractions by about seven months. This index has contracted for nineteen consecutive months though the depth of contraction and its diffusion across all economic sectors is less pronounced than in past contractions. This is reflective of the divergence in tight labor conditions versus interest rate spreads (e.g. 3 mo/10yr Treasury debt), and a slowdown in residential housing due to prices and mortgage rates. Highly inverted spreads tend to normalize prior to the start of a recession. Yet somewhat contrary is the fact that U.S. stock market indices are trading close to 52-week highs and interest rates have dramatically fallen. The Conference Board, the LEI publisher, anticipates a recession next year. Such a recession might be short or longer lasting depending on an unknown: how inflationary pressures react to Fed interest rate policy. In any case, the cost of capital to business is normalizing significantly higher. Second, the M2 money supply (currency plus bank accounts plus CD’s and money market balances) measured by the U.S. Treasury2/ has indicated a $1.3 Trillion decrease over the last twenty months even as the last twenty years have seen a four-fold increase in M2 from about $4Trillion to over $20Trillion. Since M2 is an enormous factor in economic growth and inflation, this pullback, if sustained, is a major factor in controlling inflation by dampening economic growth. Third, global economic synchronization has increased in recent decades. Europe and China in particular, are seeing slowing growth due to demographic aging and higher energy costs.3/ Based on these divergent factors, it is likely that the U.S. will experience a rotating sector recession, the depth and duration of which is difficult to predict.
Economic Behaviors
Overlain on fundamentals is a set of stochastic events led by individual, institutional, and governmental choices. In other words, behaviors inject cross currents into the fundamental picture to create short- and long-term rallies or selloffs, sectoral demand or over-supply of product, investment, and stimuli. John Maynard Keynes referred to such behaviors as animal spirits. Recent economic behavioral preferences have been exhibited in EV (Electric Vehicle) purchases and production, in cryptocurrency, meme stocks, in social media, in artificial intelligence, in pandemic governmental policy, in geo-political protectionism and sanctions, in energy volatility, and central bank responses to inflation. Behavior is emotional as well as rational.
Behaviors are usually reactionary to events and disproportional causing economic demand and supply imbalances. They can be driven by intense emotions experienced by individuals or groups, frequently fear and greed. As fundamentals signal the need for increasing or decreasing economic activity, the response is often excessive, in many cases like a step function. Furthermore, contrarian economic behaviors tend to precede cyclical reversals: investment surges prior to recession; liquidation prior to expansion.
The point of this discussion is to urge our investors to moderate their financial and economic impulses and behaviors during times that appear to be increasingly risky, volatile, emotional, or inefficient. Historically, more rational understanding of investment values and approaches tend to out-perform impulsive behaviors. We believe the coming year will be a year of high uncertainty, volatility, and risk, perhaps even a year of secular or very long-term trend changes. Because they are stochastic, they are unpredictable, but historically, this volatility tends to revert to the dictates of fundamental trends. Yet even seasoned investors can be caught unprepared when large scale economic behavior manifests itself.
Financial advisors study the fundamental trends, invest in higher potential businesses and securities, and navigate the volatility of the socio-economic space in which we exist. We reiterate our views about several fundamental trends that are worthy of investment or conversely to be avoided:
Health care businesses are growing in aging, developed societies where infections, dementia, obesity, and substance abuse pose major economic risks. We continue to seek investments in pharmaceuticals, and specialized genetic and surgical interventions;
Technology tools such as AI, cloud, and virtual reality will undoubtedly expand into more traditional products and services, albeit with new layers of regulation to protect against information abuses, human targeting, and social destabilization. We anticipate some spectacular applications and some catastrophic abuses in business, government, and organized crime;
Climate change is not just a major issue anymore but rather it is perceived as an existential threat to civil society. Thus, the trends away from fossil fuels will continue, as will the trends toward remote interactions. This implies that EV’s will replace internal combustion engines, that alternative energy sources will increase market share, and that human behavior will be recast based on new transportation means, residential paradigms and dietary choices. Existing habits will not change overnight, but will evolve with economic cycles and generational change;
Flamboyant, disruptive, or populist leadership will likely arise in the U.S. and across the globe in response to the emotional discomfort caused by social, economic, and ecological change. It is important to avoid or be suspect about investing in businesses where leaders are distracted or seriously conflicted, as these leaders frequently make inappropriate or suboptimal decisions;
Deglobalization of trade is now the prevailing paradigm, albeit incrementally. Geo-political tensions, and declining rule of law along with individual rights are forcing investors to reconsider and in many cases retreat globally.
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This material is provided as a courtesy and for educational purposes only. Please consult your investment professional, legal or tax advisor for specific information pertaining to your situation All economic and performance data is historical and not indicative of future results.
