Divergence: VanEck’s 2024 Q2 Summary 

Please Note: This report was created and provided by VanEck.

After a few years where monetary policy around the world was more or less in sync, 2024 looks different with some central banks about to go their separate ways. China continues to ease, albeit reluctantly. The US Fed and central banks across Europe sound increasingly hot to trot on cuts. Locally, the RBA is currently sitting on its hands, albeit nervously. After a decade of Quantitative and Qualitative Monetary Easing (QQE), that is, throwing everything including the kitchen sink at the economy, the Bank of Japan (BoJ) has raised rates. Admittedly, the rise is to a smidge above zero and it has wound the QE taps almost shut.

Some of the differences relate to the state of the various economies. But their impact on markets has been the story of market returns so far in 2024, particularly the shifting expectations on Fed rate cuts. At the start of the year, the market was pricing in six to seven rate cuts. While the Fed was never that bullish, the market has since tapered its cuts more in line with the Fed’s predictions.

Economies are delicately balanced, and policymakers should tread carefully, and not respond to one-offs. If inflation starts to tick upward central bankers should not ignore it.

After the record inflation in 2022 and then hiking faster and higher than ever fighting it, the inflation ghosts of the 70s and 80s still haunt developed market central banks. The Fed’s earlier rhetoric about its inflation fight, however, isn’t reflected in its current actions. It is seemingly comfortable with inflation a little higher than the target if the economy is growing. Equity markets have been speculating that we have hit peak rates this cycle, hence their continued momentum during Q1 2024.

Looking ahead, the rest of 2024 could still be bumpy. It’s the US election year. Add in the potential UK general election, which must be held no later than 28 January 2025, and the unknowns for the rest of 2024 become greater. Never underestimate the impact of regional geopolitics. Equity markets, globally, had a strong quarter, led by Japan and the US. Global and US equities were boosted by telecommunications and IT. In Australia, the materials sectors weighed on returns, as too did our telecommunications sector. Our IT sector starred, as did consumer discretionary and real estate. But these sectors, IT in particular, are not well represented in Australian indices, highlighting why a more diversified portfolio construction approach, away from the mega-caps, may be better for Australian equities.

“The idea that the future is unpredictable is undermined every day by the ease with which the past is explained.” – Daniel Kahneman, Thinking, Fast and Slow

For the rest of 2024, investors should approach risk assets selectively. In addition to avoiding concentration in markets like Australia, we think a good place to start is to focus on leverage i.e. balance sheets and cash flow. We could see the US dollar come off further and gold continuing to shine. As an aside, gold miners have strong cash flow and we’ve seen them start to outperform during the backend of the quarter. Navigating equities smarter through factor strategies such as ‘quality’ and ‘low-size’ becomes more meaningful.

At the end of the quarter, 2002 Nobel prize winner for Economics Daniel Kahneman, passed away at age 90. He changed how we think about human decision-making and his work advanced the field of behavioural economics.

What even is a ‘soft landing?’

The debate over recent quarters between a US ‘hard landing’ and a ‘soft landing’ has overlooked another outcome that is seemingly coming to fruition, that the US economy doesn’t experience any kind of landing.

Not only that, but markets have also offset any tightening by the Fed which meant that it was prudent to be sceptical that a marked slowdown was on the way. At the same time, however, we were nowhere near as confident on inflation as the optimists. A quarter ago the ‘inflation optimists’ had driven the market to be pricing in six to seven Fed rate cuts this year. Throughout the quarter, rate markets changed their tune. US equities, along with crypto and gold, shrugged off the change and marched onward.

To be fair, equities faced offsetting influences. While a rebound in rates is a negative for equity valuation, taking recession fears off the table is positive. Likewise, ongoing concerns about US debt/sovereign risk have boosted gold and crypto, with the arrival of US-listed ETFs an apparent supercharger for the latter.

Investors are now left to wonder where we are now.

On the growth front, the US economy looks fine. Business investment is solid. At the same time, real household income has improved as inflation has retreated, stoking consumer sentiment. The housing cycle is turning up and in an election year, there’s no sign of any fiscal retreat. On the inflation front, it’s looking more and more likely that the ‘transitory’ has transited, both up and down, and the remaining inflation rate is too high.

After dropping surprisingly sharply in Q3, inflation rebounded just as hard in recent months. Over the past quarter, headline CPI has run at an annualised rate of 3.7%, core at 4.2%; and Chairman Powell’s alleged favourite ‘super-core’ measure – services less rent of shelter – at over 6%.

Last quarter, inflation optimists were wilfully ignoring the Fed: their six to seven easings were in wild contrast to the Fed’s forecast of three. Now markets have seemingly fallen into line with the Fed.

It’s not that simple.

While it seems clear that there is little reason to expect a soft economy for the next two to
three quarters, this means little or no chance of a slackening labour market. And without
slowing wages, getting core inflation down to 2% seems a forlorn hope.

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