by David Young, President
Tech Giants Drive Rally
The first half of 2024 has been impressive for large-cap growth and technology stocks, particularly in sectors related to semiconductors, communications, and international markets like Japan and Taiwan.
Despite the backdrop of political turmoil and ongoing wars, the market has shown remarkable resilience. June’s continued strength capped off a solid second quarter, marking the best first half of an election year since 1976. This rally reflects a belief in a soft landing fueled by solid earnings, moderating inflation, and expectations that the Federal Reserve will start cutting rates soon. Most analysts see the risk of recession as low, providing a reassuring outlook for the market.
The S&P 500 has reached 31 historic highs in 2024, led by its most influential group: technology, particularly AI-related stocks. The tech-heavy Nasdaq 100 briefly surpassed the historic 20,000 mark, gaining 6.5% in June compared to 3.5% for the S&P 500. The Dow Jones Industrial Average remained positive, up 1.2% for the month.
However, the big story is that market leadership has been very narrow, with only a handful of the largest stocks driving all the market’s gains during the quarter.
Mega-cap growth stocks have led the way, while value and small-cap stocks have lagged. To illustrate this narrow leadership, the market-cap-weighted S&P 500 is up 15.2% year-to-date. In contrast, the median stock in the index is up just over 3%.
The AI revolution is powering significant gains in technology shares and the S&P 500. AI chipmaker Nvidia (NVDA) briefly became the largest publicly traded company in the world last month. Fortune.com said Nvidia’s shares accounted for over one-third of the S&P 500’s advance this year (through mid-June). Additionally, The Wall Street Journal reported that Nvidia accounted for 44% of the rise in the S&P 500 since the end of 2021.
This substantial influence is due to the S&P 500 Index being ‘market-capitalization-weighted ‘. This means that the index is weighted based on the market capitalization of its constituent stocks, giving more weight to larger companies. The top three stocks in this index are valued at over $9 trillion, making up a significant portion of the S&P 500’s total value of about $46 trillion. The S&P 500 Top 10 Index, which includes the ten largest companies in the S&P 500, rose nearly 29% in the first half of the year, according to S&P Dow Jones Indexes.
The sustainability of the current market rally hinges on several factors. Notably, corporate earnings growth continues at a sustainable rate. Stocks have climbed a wall of worry thanks to largely solid earnings expected to expand beyond AI beneficiaries and continue to support prices.
Additionally, both the economy and inflation appear to be moderating enough for the Federal Reserve to lower its benchmark rate. The recently revised estimate of first-quarter US gross domestic product (GDP) growth was just 1.3%, suggesting that the Fed’s restrictive monetary policy measures are affecting the economy. Solid job growth and an expanding economy, with the soft-economic landing scenario still in place, positively affect this rally.
Rates and Inflation
The Fed’s preferred measure of inflation decelerated in May to 2.6% for the previous 12 months, bolstering the case for lower interest rates later this year. However, it remains above the Federal Reserve’s 2% long-term target. The latest Consumer Price Index (CPI) gained 3.3% year-over-year in May, down from the peak 2022 inflation levels of 9.1%.
While the Fed has maintained steady rates over the past year, investors expect it to cut rates one to three times in 2024, potentially offering some relief to consumer durable goods spending and real estate investments.
Paragon Portfolios
Managed Income outperformed its index with a year-to-date return of 1.5% net of fees versus -0.7% for the Barclays Bond Index. That was pretty straightforward.
On the other hand, in the last fifty years, this year marked the lowest percentage of stocks within the S&P 500 index beating the S&P 500 index itself. There is no question that investors have overlooked many equities within the S&P 500 Index in favor of a few firms. To get a clearer picture, let’s look at the S&P 500 Equal Weight Index, where every stock contributes equally to the index’s performance. This equal-weight index is up a respectable but modest 3.25% this year (as of July 2). However, it was down 3.1% in Q2 compared to a nearly 4% advance for the S&P 500 market-cap-weighted index.
Due to the minimal number of stocks driving this quarter’s gains, Top Flight had positive returns but underperformed the S&P 500. Interestingly though, Top Flight more than doubled the median return of just over 3.25% for the stocks within the S&P 500.
During the first quarter, Top Flight was ahead with a return of 12.16% versus 10.56% for the S&P 500. However, it gave back 4.91% in the second quarter, with many stocks selling off while the chosen few tech stocks kept surging ahead. Year-to-date that left the S&P 500 at 15.3% versus Top Flight at 7.25%.
Looking deeper into the portfolios that make up Top Flight, the Fast Movers Portfolio kept up with the narrow niche of stocks, generating 14.67%. Fundamental 20 was up double the average stock, at 6.34%. Liquidity Factor was up 5.77%, bringing up the rear. We are never happy to lag the S&P 500, but this should help you understand why. Please see the disclosures regarding performance on page 7 of this newsletter.
Long-Term Investment Strategy
Historically, US markets often see a year-end rally during presidential election years. Still, it’s crucial to rely on something other than this pattern. A study by the Independent Vanguard Advisor newsletter analyzed the performance of three hypothetical investors who each invested $10,000 in either the Vanguard S&P 500 Index Fund or a Vanguard money market fund in 1977:
- The first investor invested only in the market index during Republican presidential terms, ending with $162,578.
- The second investor invested only during Democratic terms and ended with $849,016.
- The third investor remained invested in stocks continuously from 1977 to the present, ending with $1.6 million.
The key takeaway is clear: maintain a long-term growth strategy. Staying informed about market changes allows for incremental adjustments to growth and fixed-income portfolios, aligning them with current trends for optimal returns.
The first half of 2024 has been marked by a strong performance in large-cap growth and technology stocks, driven by impressive earnings, moderating inflation, and positive investor sentiment toward potential Federal Reserve rate cuts. While the market’s leadership has been extremely narrow, the overall gains suggest a resilient market outlook. Maintaining a long-term investment strategy and staying informed about market changes will be vital to navigating the year’s second half and beyond. Please reach out to us if you have any questions or would like to discuss anything regarding your portfolio.