April 2023 | Equity Commentary
Published on May 12th, 2023
Stocks moved slightly higher in the month of April, with the S&P 500 index rising 1.6%. Eight of 11 S&P 500 sectors posted positive performance, with value stocks slightly outperforming growth stocks.1 Regional bank stress continued to hover in the headlines throughout the month, culminating with the closure of First Republic Bank on May 1—a failure that many market watchers had come to expect.2 Trading in regional bank stocks remained volatile, but the muted reaction from the broader markets suggests fear of contagion remains relatively low. The fixed income markets also showed little signs of investors fleeing for safety, with the 10-year Treasury bond yield moving only slightly lower in April, from 3.48% to 3.44%.3
The news of First Republic Bank’s failure also came with an announcement from JPMorgan and the FDIC. Under the agreement, JPMorgan would assume most of First Republic’s $92 billion in deposits and would buy most of the bank’s assets, with the FDIC agreeing to share losses on some of First Republic’s loans. JPMorgan CEO Jamie Dimon and Federal Reserve Chairman Jerome Powell both made statements suggesting that First Republic’s failure marked the end of this chapter of the regional bank stress,4 but it’s also true that crises in confidence tend to be very difficult to predict. Regional bank stocks remain under pressure, and we will still need to monitor the downstream effects on credit conditions and loan activity as the year progresses.
The Bureau of Economic Analysis (BEA) reported that the US economy grew by 1.1% in the first quarter, well below consensus forecasts of 1.9% and also the 2.6% growth rate posted in Q4 of last year. According to the BEA, the growth deceleration was primarily driven by a decline in inventories and business investment (as measured by nonresidential fixed investment). A bright spot in the GDP report was consumer spending, which benefited from a surge in retail sales posted early in the year. Imports and exports also increased.5
A majority of S&P 500 companies have now reported Q1 earnings, and the overarching takeaway is that corporations largely performed better-than-expected. As of May 5, with 85% of S&P 500 companies reporting results, 79% posted a positive earnings-per-share (EPS) surprise and 75% beat consensus expectations on revenues. According to Factset, Q1 2023 marked the best earnings performance relative to expectations since Q4 2021.6 Notably, large money center banks like JPMorgan, Citi, and Wells Fargo all reported strong earnings and expanding net interest margins,7 which was partly driven by an influx of new customers leaving regional banks.
The Bureau of Labor Statistics reported that inflation (consumer price index, CPI) rose by 0.4% in April, following a 0.1% increase in March. Year-over-year, CPI registered at 4.9% in April, down from March’s 5% and February’s 6% year-over-year increase. April’s CPI reading marked the smallest increase since May 2021. Core prices, which strip out food and energy, were higher at 5.5% y-o-y, largely because of pressure in services prices—and specifically the shelter component, which makes up one-third of the index. The upshot here is that shelter prices measure what renters and homeowners are paying for new and existing leases, which means meaningful declines in rents will not show up immediately in the CPI number.8 An index of median rents in the US showed the first year-over-year decline since March 2020. Assuming the trend continues, the shelter component should contribute significantly less to the CPI number by this summer and fall.
The Federal Open Market Committee (FOMC) met on May 2-3 and announced another 25 basis point increase for the benchmark fed funds rate, bringing the target rate to the 5% to 5.25% range. In the official statement released after the meeting, the Fed importantly did not include the following sentence: “The Committee anticipates that some additional policy firming may be appropriate.” 9 We believe this omission is perhaps the clearest sign that the benchmark fed funds may have arrived at its terminal rate in this cycle. Assuming there is not a negative inflation surprise in the next few weeks, we would expect the Fed to “pause” at its June meeting and hold rates steady until inflation falls much closer to its 2% target.
While the economy has shown some signs of cooling in response to higher rates, the labor market has not. April’s job report showed a 253,000 gain in nonfarm payrolls, following a 165,000 increase in March. The unemployment rate fell to 3.4% in April from 3.5% in March, as 43,000 people left the work force and the number of unemployed Americans fell by 182,000. The three-month moving average of job growth in the US registered at 222,000, which shows hints of softening but not convincingly so.10
Looking ahead in May and early summer, the debt ceiling issue will likely figure prominently in the headlines. Market participants have largely come to expect a debate over raising the debt limit every few years or so, and many of the same warnings from Treasury officials and demands from political parties play out as they have in years past. It appears that the US will be able to meet obligations and debt payments for another month or two, which unfortunately for investors just extends the timeline that this story is likely to play out in the press. There have been some positive developments recently, with the House’s passage of the Limit, Save, Grow Act in late April11 and a meeting between House leadership and President Biden in early May. While neither development is likely to result in a deal on the debt limit, they at least serve as a starting point for negotiations.
1.S&P Dow Jones Indices, Market Attributes US Equities
2.FDIC_ Failed Bank Information for First Republic Bank, San Francisco, CA.pdf
3.Resource Center _ U.S. Department of the Treasury.pdf
4.JPMorgan Chase Takes Over First Republic After FDIC Seizes Bank – WSJ.pdf
5.Gross Domestic Product, First Quarter 2023 (Advance Estimate) _ U.S. Bureau of Economic Analysis (BEA).pdf
As of April 30, 2023