MAY 2023 MARKET UPDATE

Thrivent Asset Management Contributors to this report: Steve Lowe, CFA, Chief Investment Strategist; John Groton, Jr., CFA, Director of Administration and Materials & Energy Research; Matthew Finn, CFA, Head of Equity Mutual Funds; and Jeff Branstad, CFA, Model Portfolio Manager

However, economic uncertainties remain. On May 1, First Republic Bank was seized by regulators and its assets were sold to JPMorgan Chase – the fourth bank failure since early March. The failures were triggered by the rapid increase in interest rates by the Federal Reserve (Fed), which drove down the value of the banks’ existing bond and mortgage-backed security holdings. But regulators have remained vigilant and have been quick to respond.  

Despite the banking turmoil, the Fed hiked rates one more time, with a 0.25% increase May 3, bringing the total increase in rates since the Fed began its hikes early last year to 5.25%. It was the first time the benchmark rate has exceeded 5.00% since July 2007.

While Fed Chair Jerome Powell hinted that the Fed would likely pause further rate hikes, he stressed that the economy could still face a number of challenges in the coming months. “Credit conditions had already been tightening over the past year or so in response to our policy actions and a softer economic outlook,” he said. “But the strains that emerged in the banking sector in early March appear to be resulting in even tighter credit conditions for households and businesses.”

One economic development that may have played into the Fed’s guidance was the latest gross domestic product (GDP) report indicating that the U.S. economy is continuing to slow. According to the Bureau of Economic Analysis (BEA), GDP rose at a rate of only 1.1% in the 1^st quarter – the third consecutive quarter of slowing economic growth. Declines in inventories and fixed investment, such as equipment and facilities, were the largest drags on the economy in the 1^st quarter. But on the bright side, consumer spending continued to accelerate, and exports rose.

Inflation has proven persistent with the Personal Consumption Expenditures Index (PCE), a common gauge of inflation, rising 4.2% year-over-year through March, according to the April 28 BEA report. However, the PCE, which tracks consumer expenditures for goods and services, was up only 0.1% from the previous month in March, the smallest one-month rise this year. Excluding food and energy, the index was up 0.3%.

The Consumer Price Index (CPI), which also tracks prices consumers pay for goods and services, also inched up just 0.1% in March and 5.0% from a year earlier, according to the Bureau of Labor Statistics. It was the smallest year-over-year rise since May 2021. However, Core CPI (excluding the more volatile food and energy prices) rose 0.4% in March, and 5.6% year-over-year. 

Outlook: The economic uncertainty and volatile investment environment that characterized the 1^st quarter is likely to prevail through much of 2023. The challenges of transitioning to a post-pandemic world, continued inflationary pressures, a restrictive monetary policy, and ongoing geo-political tensions, are likely to remain headwinds for the stock and bond markets. 

Regardless of equity style or size characteristics, quality factors such as reliable earnings and strong balance sheets will likely be critical issues in equity performance as the year progresses. That said, mega cap technology stocks, which significantly lagged the market last year, look poised to continue their recovery, as investors migrate back to less cyclical, high quality, and low capital intensity stocks.

While small cap and value stocks remain historically cheaper relative to these large cap stocks, these sectors typically perform better when the economy transitions from contraction back to expansion. And we aren’t there yet.

With expectations of a challenging macroeconomic environment, we believe credit risk is elevated and may impact corporate and high-yield bond returns over the balance of the year. Credit spreads have widened, especially in the banking sector, as elevated risks were priced into bond yields.

Before adding significant risk in either fixed income or equities, we believe investors should look for meaningful improvement across a range of critical factors, including more attractive overall valuations, declining inflation, stability in the banking and financial system, and an economy poised for expansion. In the meantime, we continue to believe a defensive stance remains warranted, with a bias to cash and higher quality, shorter maturity fixed-income investments.

Drilling down

U.S. stocks edge up

The S&P 500^® Index was up 1.46% in April, from 4,109.31 at the March close to 4,169.48 at the end of April. The total return of the S&P 500 (including dividends) was 1.56%. The total return for the year through April was 9.17%. (The S&P 500 is a market-cap-weighted index that represents the average performance of a group of 500 U.S. large capitalization stocks.)

The NASDAQ Index rose slightly in April (up 0.04%) from 12,221.91 at the end of March to 12,226.58 at the April close. For the year, the NASDAQ was up 16.82% through April, as technology stocks continued their rebound off large losses in 2022. (The NASDAQ – National Association of Securities Dealers Automated Quotations – is an electronic stock exchange with more than 3,300 company listings.)

Retail sales slip

Retail sales were down 1.2% from the previous month in March, but up 1.5% from 12 months earlier, according to the Department of Commerce retail report issued April 14. Falling sales were led by drops in gasoline stations, general merchandise stores, and electronic & appliance stores. Gas sales were down 5.5% for the month and 14.2% below a year ago.

General merchandise store sales were down 3.0% on the month as department store sales weakened. Department store sales were down 2.5% from February, but up 1.25% from a year earlier. Electronics and appliance store sales were down 2.1% from the previous month and down 10.3% from a year earlier.

However non-store retailers (primarily online) were strong, up 1.9% from February and 12.3% from a year earlier. Similarly, sales at food services and drinking establishments rose in March, up slightly (0.1%) on the month but 13.0% from a year earlier, as consumers continued to return to restaurants and bars.

Job gains continue as unemployment drops

Unemployment in April fell to 3.4%, the lowest level since 1969, according to the May 5 employment report from the Department of Labor. And job creation continued in April, with 253,000 new jobs added to the economy – well above market expectations of about 180,000 jobs. Professional and business services added the most employees, at 43,000, followed by health care (40,000), and leisure and hospitality (31,000).

Hourly earnings, which can be an important barometer of inflation expectations, rose 0.5% in April, the largest monthly gain of the past year. With nearly 10 million job openings in the U.S., according to the Fed – and only about 5.6 million people currently looking for work – low unemployment may continue despite the Fed’s efforts to slow the economy.

Most sectors move up in April

Eight of the S&P 500’s 11 sectors generated a positive return in April, with Communication Services leading the way. The sector rose 3.77% for the month, increasing its lead as the best performing sector year to date, up 25.05% so far. Information Technology, the second-best performing sector year to date, generated a 0.45% return in April. The Financials sector, which has struggled with concerns about the banking system, bounced back in April, up 3.18%. The only sectors in negative territory were Industrials (down 1.18%), Consumer Discretionary (down 0.95%), and Materials (down 0.14%).

The chart below shows the past month and year-to-date performance results of the 11 sectors:

Treasury yields dip

The yield on 10-year U.S. Treasuries remained in a narrow range in April, ending the month down 0.04%, from 3.49% at the end of March to 3.45% at the April close.

The Bloomberg US Aggregate Bond Index was up 0.61% in April and 3.59% year-to-date.

Oil prices volatile

Oil prices were up modestly in April, with demand easing as the global economy struggled. The price of West Texas Intermediate, a grade of crude oil used as a benchmark in oil pricing, rose 1.47%, from $75.67 at the end of March to $76.78 at the April close. However, prices plunged about 10% in early May over concerns of a slowing global economy and disappointing industrial performance in China.  

Gasoline prices at the pump also rose in April. The average price per gallon climbed from $3.53 at the end of March to $3.77 at the end of April.

International equities continued to climb

International equities rose again in April, with the MSCI EAFE Index up 2.45% for the month, from 2,092.60 at the end of March to 2,143.85 at the April close. The index, which tracks developed-economy stocks in Europe, Asia, and Australia, was up 10.28% for the year.