Five lessons learned as summer comes to an end

by Larry Adam, CIO, Raymond James

Key Takeaways

• A soft landing for the economy remains our base case
• The 2024 election is now a toss-up
• 3Q24 EPS estimates are being revised downward

Happy National Cheap Flight Day! Yes, you heard that right—there is a national celebration day to mark the start of a lull in travel demand. Who knew this would be a day to celebrate? Regardless, it’s good news for consumers as airfares should continue their recent downward trend! So, with summer winding down and back-to-school season rapidly approaching, now would be the perfect time to snag a deal and book your next getaway before prices climb ahead of the upcoming holiday travel season. After all, if there is one thing companies know, it’s that the American consumer will take advantage of bargains! In fact, we heard this many times during 2Q earnings season. And speaking of other things that stood out over the past eight weeks, here are five that we learned this summer:

• ‘Runway’ For A Soft-Landing Still Intact | U.S. economic activity remained solid in 1H24, although there has been some degree of slowing—most notably in the labor market (lower hiring rate, declining job vacancies, rising unemployment rate). This week’s downward revisions (-818k) to the jobs figures for the 12 months ending March 2024 confirmed our view that the labor market’s strength was overstated. While slower than expected, the revisions should bring the monthly pace of job gains down from ~240k per month to a still healthy pace of 174k—a far cry from a recession-like outcome. Inflation, while still elevated, also moved in the right direction after the brief scare earlier this year. And with consumers pushing back on price hikes and promotional activity increasing, further disinflation is likely. The point is: the economy is slowing, but it is not at risk of collapsing. While our economist expects the economy to slow further, a soft landing still appears to be the most likely outcome.
• Fed Has ‘Clearance’ For A Rate Cut | Policymakers have been grappling with the right time to start dialing back their restrictive policy stance for nearly a year now. But as growth moderates, the labor market cools, and inflation risks ease, the stars have aligned for a September rate cut of at least 25 bps. We couldn’t agree more—the recent data has been sufficient to justify a rate cut. This will be welcome news for the markets as the Fed proactively easing should support growth, extend the life of the expansion (currently running at 4+ years), and maximize employment. And while the market has priced in an aggressive, front-loaded easing cycle (nearly 200 bps of rate cuts are expected over the next 12 months), the pace and magnitude of the Fed’s rate path will be dictated by the incoming economic data. The good news: the Fed has plenty of room to ease if needed.
• Election Outcome Is ‘Up In The Air’ | What a difference a few months can make. Just two months ago, former President Trump appeared to be sailing to victory as betting markets reflected a ~70% chance of a Trump win. However, with Biden stepping down and Vice President Harris securing the Democratic nomination, the election is now a toss-up—with both polling and betting markets signaling an extremely tight race. If there is anything that the market does not like, it is uncertainty—particularly with valuations in the upper decile relative to history. Looking back through history, open elections (two non-incumbent candidates running for the presidency) have led to increased volatility with the S&P 500 down ~3%  on average and negative ~70% of the time from now until the election. As each candidate expands his/her policy platform moving forward (e.g., Harris’ tax hike proposal, Trump tariffs), volatility will likely remain elevated heading into election day.
• Forward Earnings Estimates Cruising At ‘High Altitude’ | Corporate fundamentals remained on solid ground in 2Q, with S&P 500 earnings rising at the fastest pace (+11.3% YoY) since 4Q21. Earnings broadened beyond mega-cap tech, with S&P 500 ex-MAGMAN earnings rising meaningfully into positive territory in 2Q—the first time in two years. However, with a broad set of CEOs signaling a soft start to 3Q—particularly in travel spend and home improvement—forward-looking estimates have been revised lower. In fact, while mega-cap tech earnings have been resilient, S&P 500 ex-MAGMAN 3Q24 EPS estimates have been cut ~7% over the last three months—bringing the growth rate from 8% at the start of earnings season to ~1-2% today. While we expect earnings to broaden moving forward (albeit not in a straight line), slowing economic activity may weigh on forward estimates—particularly with 2025 EPS estimates that have been largely unscathed up to this point and are likely overly optimistic.
• ‘Turbulence’ Is To Be Expected | The equity market had smooth sailing to start the year—with the S&P 500 up ~15%, logging 31 record highs and only enduring one 5% max drawdown through June 30. This was calm relative to history, as the S&P 500 typically experiences 3 to 4 5% pullbacks on average per year and a max intra-year drawdown of ~13%. However, the 8% decline in July and August is a reminder that complacency can be an investor’s worst enemy, and that volatility remains a part of the fabric of the market. The sharp rebound in recent weeks is a reminder that panic selling during periods of volatility is oftentimes a detriment to performance and sticking to your long-term plan is critical. With upcoming negative seasonality (September is historically the worst month of the year) and continued economic and political uncertainty, volatility is likely to pick up again.

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