Weathering the Storms | Q2 2024 Capital Market Update

“Cultivate the root; the leaves and branches will take care of themselves.” – Confucius

The second quarter of 2024 started off with an April to forget, for both stocks and Oklahoma weather. April 2024 recorded more tornadoes in the state (55) than any other single month since 1950. And although storm season is technically in the rearview, the first half of 2024 alone has produced the sixth most tornadoes in a single year over that same period, with 104 documented twisters to date. Most of us have felt the impact of this abnormally high volume of storms, either directly or indirectly. Thankfully, with the advancements in weather-related technology, great meteorologists, and proactive preparation, those of us living in “Tornado alley” are now less exposed to the severe risks of these storms than was true 75 years ago. With ample warning, people can take precautions that prevent serious injury. Homes, buildings and other structures are built with foundations better able to weather the storms. But as the chart below illustrates, these storms show up every year, some more severe or copious than others. As a result, Oklahomans have not stopped expecting severe storms; instead, we’ve learned to prepare better for them.

Opposite the Oklahoma weather, both the U.S. economy and global capital markets have been quietly positive in 2024 thus far. Two years ago, Jamie Dimon, CEO of JPMorgan Chase, warned of an “economic hurricane” ahead as the U.S. central bank accelerated rate hikes in the face of 9% inflation. Since that warning the U.S. economy has grown seemingly healthier, driving equity markets to all-time highs. And while there are no apparent signs of an economic storm today, the second half of 2024 may offer unstable air and a change in wind speed as we experience the U.S. election, an inflection point for monetary policy, and a decelerating economy. Like Oklahoma weather, economic and capital market storms are inevitable. Now is the time to ensure your investment strategy is built on a strong foundation and able to weather the storms.

Concentration Continues

Following an April to forget, where the S&P 500 fell more than 4%, the index finished the second quarter almost exactly opposite, increasing around 4.1% over the 3-month period. April saw stickier than anticipated inflation and hopes of summer interest rate cuts evaporate. Since then, the disinflationary trend has continued for the U.S. economy, with Core CPI falling to 3.4% in May from 3.8% in February and March. Lower trending inflation and a solid first quarter earnings season led U.S. equities to fresh all-time highs, largely (once again) led by mega cap technology-related companies such as Nvidia (+36%), Apple (+23%), and Alphabet (+21%). Noted returns for three months ending June 30th.

With U.S. stocks at record highs, valuations relatively stretched, and the market concentrated in just a handful of the largest companies, how should investors think about portfolio positioning as we enter the back half of the year?

First, long-term investors should not be deterred from investing in equities when markets are at all-time highs. In fact, research from JPMorgan Asset Management found that investing at market highs produced higher long-term returns versus investing at any point over the same period. The reason is simple, market highs are typically clustered as market strength fuels further market strength. The S&P 500 index has produced 32 new all-time highs so far in 2024. In short, don’t wait to invest, nor abandon your long-term investment strategy, just because stocks are at all-time highs. Second, starting points matter, and history shows just how impactful today’s valuations can be on future returns. To that end, thoughtful asset allocation and careful security selection become increasingly important when markets present more dispersed valuation differences across asset classes and geographies. A few areas our team sees offering attractive relative valuations are international equities, small and mid-cap domestic equities, as well as certain areas of fixed income.

Although the last decade-plus has been dreadful for international equities relative to their domestic counterparts, investors must not fall victim to recency bias. As the chart below indicates, U.S. and international equities have historically outperformed and underperformed in multi-year cycles. And with current valuation discounts, a renewed focus on corporate governance, including more shareholder-friendly capital markets, combined with? international central banks cutting interest rates sooner than the U.S., potential tailwinds exist for international equity outperformance over the intermediate-term.

The Wealth Effect

The U.S. economy has remained resilient throughout the first half of 2024, perhaps a two year “groundhog day” story at this point. With no sign of? the economic hurricane warned against in mid-2022, it’s worth analyzing why and how this goldilocks economy has come to fruition. Despite generationally-high inflation just 24 months ago, followed by an historically steep interest rate-hiking cycle, Americans are now wealthier than ever before. With ever-rising home values and domestic equity indexes at all time highs, the wealth effect could be partially to blame for our local economic growth. JPMorgan’s Global Market Insights team estimates that the net worth of U.S. households will have increased by about 14%, or nearly $19 trillion, over the last 18 months, more than the total spending of U.S. consumers in 2023, which was $18.5 trillion. Broad increases in household wealth, as has been seen in the past two years, can further perpetuate economic growth. This “wealth effect” is the notion that when households become wealthier as a result of rising asset values, they tend to spend and consume more which stimulates the broader economy.

More than just a theory, researchers at the National Bureau of Economic Research have found that consumer spending rises by 2.8 cents per year for every dollar of increased stock market wealth. Not only that, but the study also shows a country’s increasing stock market wealth is associated with greater levels of local employment and payrolls. Below is a chart from this research. Perhaps the wealth effect is, at least in part, responsible for the recent resiliency of the U.S. economy.

Historic Election Year?

Every four years the “most important election in history” takes place. That’s been true since George Washington was elected in 1789 and will likely remain so for the next 235 years. But for the first time since 1892, this year’s pair of presidential candidates have 1) both been president before and 2) have both already campaigned against each other, according to JPMorgan’s 2024 mid-year outlook. And while certain industries could be more exposed to policy outcomes than others, such as healthcare, energy, and technology, history shows us that for the long-term investor politics don’t matter all that much. In fact, since 1957 the S&P 500 has posted positive returns in every administration except for Bush (W.) and Nixon.

As the chart below shows, the best investment strategy when it comes to election cycles is to simply stay invested for the long haul. For one, most full-time? political analysts cannot predict who will win the next election. Forecasting which new policies will be implemented and how they might impact specific stocks and other asset classes is often a losing proposition over the short-term. By sticking to a long-term investment strategy built on a solid foundation,? investors are able take advantage of the most predictable driver of wealth accumulation: time.

Further, the issues we think are new to us today are often the same issues that were most important decades ago. One of our Investment Team’s core beliefs is to value “history over headlines” for this exact reason. With pundits grasping for views every day, it’s difficult for rational investors to separate the signals from the noise. Sometimes it’s important to zoom out and study the past to better understand the future

.Focus on the Foundation

Storms are normal, as are recessions, economic crises, and stock market corrections. To expect anything less is unwise. Instead, investors should focus on building an investment strategy and portfolios? with a strong foundation. As they say, you shouldn’t wait until it’s raining to build an ark.

Putting this into action, our team considers three primary components when building a portfolio capable of weathering the storms: thoughtful asset allocation, prudent risk management, and careful security selection.

?Thoughtful asset allocation: using long-term capital market assumptions, combined with current asset class valuations, allows us to construct diversified portfolios so that each asset class has a purpose. While asset allocation is known to be responsible for a majority of long-term returns, we also believe an all-weather, diversified portfolio helps investors stay on the boat when waters get choppy.

?Prudent risk management: by prioritizing capital preservation above all else, a portfolio built on a strong foundation, including the process of rebalancing and monitoring long-term strategic allocations,? is better positioned to withstand the test of time.

?Careful security selection: not all stocks or bonds are created equal. Within the S&P 500 alone there are ample opportunities for an active manger to add value over the long-term. Within the Russell 2000, a widely used small-cap equity index, roughly 30% of the constituents are not profitable, creating even more room for analysts and investment managers to generate value. Whether utilizing individual stocks and bonds or relying on a fund manager to pick the investments, careful selection is critical.

Market Corrections are Normal

Bottomline

Like Oklahoma weather, investors are sure to experience economic storms that put their investment strategy and portfolios to the test. As seen in the chart above, market corrections are normal. Simply because the waters have been calm for an extended period doesn’t mean the same will be true moving forward. With an important U.S. election, key Federal Reserve decisions and a slowing economy, market volatility could pick up in the second half of 2024. Instead of expecting the future to be different than the past, investors should focus on ensuring their portfolios are built to weather the storms.

Disclaimer:?Trust and Investment Management Services are not a deposit, not FDIC insured, nor insured by any federal government agency, not guaranteed by the bank or its affiliates, and may lose value. This general market commentary is intended for informational purposes only and should not be considered investment, financial, or legal advice.?

We believe the information contained within this material to be reliable but do not warrant its accuracy or completeness. Opinions and views expressed herein reflect our judgement based on current market conditions and are subject to change without notice. Past performance is not indicative of future results. Additional risk considerations exist for all strategies, and the information provided is not intended as a recommendation, or an offer or solicitation to purchase or sell any investment product or service.