● After a softer 1Q24 of 1.6%, real GDP growth bounced back to 3.0% in 2Q24. Although economists expect GDP growth to
slow in 2025 to 1.8%, the economy continues to surprise to the upside with most now expecting a soft landing.

● The unemployment rate has stabilized around 4.1% in the last few months, and the latest job report surprised to the upside with nonfarm jobs increasing by 254K in September versus 145K expected, bringing the unemployment rate back to 4.1%.

● CPI Inflation has been coming down YTD to a 2.4% YoY rate in September, but up from 2.3% in August. However, the core CPI (ex food and energy) has declined slower and was up 3.3% YoY September. We expect the FED to make further progress on inflation for the next 15 months, but a stronger than expected economy fueled by US consumers could force the FED to keep interest rates higher to make sure the core inflation goes down to its goal of 2.0%. Recent strong productivity growth has helped to offset higher wages, which has kept labor inflation muted.

● The S&P 500 had another good quarter in 3Q24, increasing 5.5% led by Utilities (18.5%) and Real Estate (16.3%) as the market realized AI growth will demand huge amounts of reliable electricity to fuel data centers, while real estate benefited from lower interest rates and the stronger economy.

● The 10-year Treasury bond yield decreased by 58 bps during the quarter to end at 3.79% leading to an increase in bond prices. The Aggregate US Bond Index increased 4.3% in 3Q24.

● We favor investment grade intermediate term bonds. We recommend investors to stay away from long-maturity bonds since continued large US deficits will force the yields on long-term US bonds to stay high, preventing price appreciation and risking price declines.

● We recommend bond ladders of IG Intermediate bonds with attractive yields and the potential for price appreciation in the next 1-2 years.

● Short term interest rates have started to decline after the FED reduced the overnight rate by 50 bps last month. As the FED is guiding to reductions of another 150 bps by YE25, money market returns will fall by a similar amount and we recommend investors term out cash positions not needed for liquidity purposes.

● Studies show that market timing typically produces inferior returns. We encourage diversification and a focus on working towards financial planning goals.

• Geopolitical unrest and the risks to global growth:
  • Global unrest has increased with Iran attacking Israel with ballistic missiles in retaliation for Israel attacking Hezbollah in Lebanon, again in response to 8,000 missiles rained on northern Israel since October 7th, 2023, from Hezbollah controlled territory in Lebanon. The market is waiting on Israel’s response which could include targeting Iran’s oil manfrastructure leading to a spike in the price of oil. Furthermore, Israel continues in its war against Hamas in Gaza, the Houties continue attacking shipping in the Red Sea and sending rockets towards Israel, and the war in Ukraine persists.
  • Cold War 2.0 has started with Russia, China, Iran with proxies, and North Korea on one side and the West and allies on the other side. The delineations are less clear than in the past, but this will have negative consequences for trade, globalization and economic growth as resources are allocated away from consumers to defense.
  • The political wind in Europe is changing as ruling party coalitions are losing support among populations. The Democratic party forced Biden to step aside in favor of Harris after his poor debate performance.
  • The US presidential race is currently extremely close just days ahead of the election.
    
    
• Economic growth, unemployment, and FED action:
  • The US economy continues to surprise to the upside, led by consumers who finally are receiving real wage growth this year as inflation has come down. This has created more jobs, expanding the labor force and therefore spending helping the economy even further. The FED lowered interest rates by 50 bps last month and have signaled plans for another reduction of 50 bps by YE 24 and total reduction of 200 bps by YE25 as their focus shifts to balance both inflation and employment
  • The corporate sector remains strong as earnings continue to come in better than expected. The EPS for the S&P 500 are now projected to grow 9.7% in 2024, 14.6% in 2025, and 9.3% in 2026. This should support job creation to keep the unemployment relatively low, bolster the consumer, and propel the economy higher.
    
    
• US Government budget deficits:
  • The US continues to run large budget deficits with the latest pegging the fiscal 2024 deficit at ~$1.8 Trillion despite a robust increase in tax revenues. With both current Presidential candidates being populists with zero focus on US government debt and the Federal deficit in their campaigns, we don’t expect any change in deficits going forward.
    
    
• US Government Debt:
  • US Federal debt-to-GDP has risen to 122% versus 58% in 2000. The Congressional Budget Office (CBO) projects US Federal debt to rise by ~$20 trillion in the next decade even in the most positive scenario to ~$55 trillion
  • Continued large budget deficits will make this worse and eventually force harsher changes when the music stops.
  • The CBO projects interest payments on the Federal debt held by the public will be ~$892 billion for 2024, a 36% YoY increase. This compares to 2024 defense spending of ~$825 billion.
  • As the interest on the Federal debt will consume a higher, and higher percentage of the government’s budget, it will crowd out other spending, making it harder to make changes the longer we wait.
  • Increasing debt from low debt levels is not a problem. It becomes an issue when debt levels are so high adding more debt and refinancing existing debt becomes problematic.
    
    
• Emerging market growth and China’s real estate bubble:
  •  China’s economic growth has slowed partly due to economic policies and partly from its population having peaked. An oversupply of apartments has caused prices to decline and left an overhang of bad debt from large real estate developers stopping new construction which had been a large driver of economic growth along with infrastructure spending that also has slowed substantially.
  • Wages in China have become less competitive. Combined with higher geopolitical risks, companies have moved, or established new production, away from China to diversify risks. India has been a big beneficiary as the country’s economic growth has surpassed China.
  • Higher demand for key raw materials used in the energy transition will benefit select EM economies such as Brazil and Indonesia that have these resources.
    
    
• Economic growth, corporate earnings, and financial markets:
  • Putting it all together, we expect continued US economic growth, led by the consumer. This should propel US corporate earnings higher by~10% this year and ~15% next year. We favor intermediate IG corporate bonds due to a combination of strong balance sheets and attractive yields. We recommend long-term investors to stay invested despite darker clouds such as higher geopolitical risks, a slowing China, and a recognition large US budget deficits and higher Federal debt will increase risks over time. We will eventually have a correction, but the timing is unpredictable. Importantly, the equity markets have moved to new highs following corrections, rewarding patient investors.