Navigating in Shifting Economic Currents

The stock market’s resilience in the face of economic and global uncertainties has been remarkable. The broader S&P 500 index (SPX) has registered a 12% year-to-date increase, and the tech-focused Nasdaq 100 index (NDX) has posted an even more impressive growth of 32%.

At the forefront of this upward trend has been the unprecedented explosion in artificial intelligence technology, propelling the entire tech landscape into a new era of innovation. The meteoric rise of Nvidia (NVDA), a titan in the semiconductor industry, exemplifies this growth trajectory. Having experienced almost a 300% surge since the market low last October, Nvidia recently joined the prestigious trillion-dollar club. This advancement marks a significant milestone for the AI sector, solidifying its pivotal role in the future of tech and serving as a strong indicator for potential growth.

Nonetheless, it is important to highlight that not all market sectors have followed this bullish trend. When considering the S&P 500 index on an equal-weighted basis, which dilutes the influence of mega-cap stocks, we find a more modest growth at just 2.7%. The divergent—though still positive—trend illustrates how mixed but generally better than expected economic data has been somewhat counteracted by the market’s shift towards expectations of a sustained high-rate environment enforced by the Federal Reserve.

Looking back, past economic hurdles like the regional bank crisis now seem like distant memories. While the debt ceiling debacle caused quite a stir, in retrospect, it was more of a media spectacle than an event of economic disruption. Even geopolitical uncertainties, such as the Ukraine conflict and strained China-U.S. relations, haven not managed to derail market stability.

Economic Growth and Labor Market

The Leading Economic Index (LEI) dropped by 0.6% in April, marking its 13th consecutive month of decline. This consistent weakening would normally suggest a possible recession in 2023, a trend previously observed before past downturns. However, the stock market seems to be defying this negative outlook, likely influenced by the expectation that it would cause a pause in rate hikes or even a cut by the Federal Reserve. Interestingly, the post-COVID economic shift towards services and remaining fiscal stimulus seem to be skewing these traditional indicators.

Examining other economic indicators, the overall outlook appears healthier than many recession fears headlines would suggest. While there has been a ‘rolling recession’ among some sectors like manufacturing, single-family housing construction, and commercial real estate, there are areas demonstrating substantial growth. The services sector, although growing at a slightly slower pace, continues to be a significant contributor to the economy. Despite a slight dip to 50.3% in May, the ISM Non-Manufacturing Index still signifies expansion within the service sector—which represents the largest segment of the U.S. economy.

Concurrently, the labor market has been performing quite well. A substantial increase in non-farm payrolls in May, reaching 339,000 jobs and surpassing a consensus forecast of 190,000, is indicative of a gentle economic landing rather than an impending sudden recessionary hard landing.  With an unemployment rate at just 3.7% in May and still-strong growth in wages, consumers have ample capacity to spend.  We are keeping a close eye on rising consumer credit, but debt payment delinquencies remain relatively low.

Steering through Shifting Economic Currents

Now, the question arises – how do we position our portfolios amidst this complex economic landscape? Our views on various investment segments help provide an insight into our strategic direction.

We are bullish on the stocks market, expecting short-term choppiness but maintaining a positive long-term view. Our conviction in a secular bull market remains unshaken. Within this space, we believe AI and semiconductors have a significant runway for growth.  This is reminiscent of the internet boom of the late ’90s and while there are potential risks, sound fundamental research will help identify the long-term winners. The inclusion of Nvidia in our Opportunistic Equity strategy and basket of semiconductor stocks in our more diversified strategies have been working very well.  Fortunately, they have been offsetting exposure to some energy stocks that did very well last year but have pulled back with the decline in oil prices.

On the global stage, we identify value in the Chinese market, even as geopolitical tensions cast long shadows. While our positioning in this market via our more aggressive Global Tactical Asset Allocation (GTAA) strategies has not produced the expected results recently, we remain optimistic. China’s economic trajectory post-COVID lockdown reopening and its stimulative policies make it a compelling investment opportunity. Our positive outlook extends to Chile, a country currently outperforming others, particularly due to the rise in copper prices and the global shift towards electric vehicles and battery technologies, underpinned by the country’s abundant lithium reserves.

In terms of interest rates, it is our view that short-term rates will remain higher for longer than most market predictions, while long-term rates are expected to remain steady but with the potential to creep upward. Our GTAA investment strategy based on this outlook incorporates a mix of short-duration Floating Rate notes such as CLO AAA-rated and Bank Loans. These instruments, with their floating rates, are advantageous in the current environment of high short-term rates and elevated interest rate uncertainty.

In the credit arena, we see corporate debt being bolstered by a generally stabilizing outlook for corporate earnings.  While higher interest rates are a headwind, businesses appear to be adapting, and the risk for a financial crisis remains low.

To conclude, our market outlook for the remainder of 2023 is positive. We believe in the transformative potential of AI and semiconductors, the resilience of the U.S. economy, and the promise of emerging markets like China and Chile. As we navigate through 2023, we intend to seize the opportunities presented while keeping a careful watch on the inherent risks. Armed with our experience and rigorous fundamental analysis, we remain confident about steering through these shifting economic currents and delivering value for our clients.

Disclosure:

This communication does not constitute an offer to sell, or a solicitation of an offer to purchase, an interest in any AWA fund, AWA strategy, or any other investment product.

The views expressed are as of June 9, 2023 and are a general guide to the views of AWA. The information and opinions contained in this document have been compiled or arrived at based upon information obtained from sources believed to be reliable and in good faith. All such information and opinions are subject to change without notice. A number of the comments in this document are based on current expectations and are considered “forward-looking statements.” Actual future results, however, may prove to be different from expectations. The opinions expressed are a reflection of AWA’s best judgment at the time this letter was drafted, and any obligation to update or alter forward-looking statements as a result of new information, future events, or otherwise is disclaimed.

Past performance does not guarantee future results. Any and all graphs in this presentation should not be used to make investment decisions.

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