Davenport Insights

Time will tell how well the old saying “Sell in May and Go Away” works this year but, at least for May, bullish investors were rewarded with major equity indexes solidly positive for the month. Continued large cap tech leadership combined with cautious optimism about the potential for Fed policy to remain neutral if not outright supportive seemed to provide encouragement for bullish sentiment. Meanwhile, the VIX Index or “fear gauge” which had spiked to near 20 last month on Middle East hostilities, eased back to the low teens for much of May. For the full month, the Dow Jones Industrial Average increased 2.3%, the S&P 500® index was up 4.8%, and the smaller cap weighted Russell 2000® increased by 4.9%.

Ten of the eleven sectors of the S&P 500 increased during May. The best performing sector for the month was Information Technology which increased 10.0% and was followed by the Utilities sector which was up 8.5%. The weakest performance in the month was posted by the Energy sector which decreased by 1.0% followed by the Consumer Discretionary sector which was up 0.2%. For the prior twelve months period, the Communication Services sector was the best performer with a 40.6% increase followed by the Information Technology sector which was up 37.2%, while the Real Estate sector was the worst performer for the past twelve months with a 5.4% increase followed by the Consumer Staples sector which was up 8.9%.

Consumers have become broadly more pessimistic about the near-term outlook with consumer sentiment as reported by the University of Chicago dropping to a six month low. The headline consumer sentiment index for May fell from 77.2 to 69.1 with results broadly in line with preliminary results released earlier in the month. Inflation is a key concern weighing on consumers with consumer inflation expectations rising at an annual rate of 3.3% over the next year. The expectations index dropped to 68.8 versus April’s reading of 76.0.

The Bureau of Economic Analysis or BEA reported on Personal Consumption Expenditures (PCE) for April. Core PCE increased in line with economist expectations – up 0.2% in April – and at an annual pace of 2.8% (versus forecasts targeting 2.7%). Headline PCE inflation ramped by 0.3% on the month – rising by 2.7% on an annual basis – in line with forecasts. Although the PCE datasets failed to show any progress forthcoming in April on the inflation front, at least there was no evidence of resurging inflation as well. With markets on edge over interest rate policy, this essentially in line report had investors breathing a sigh of relief.

The housing market continues to be impacted by an uncertain macro environment influenced by high borrowing costs, home appreciation, and limited supply of homes for sale. These factors were reflected in pending home sales reported by the National Association of Realtors which declined 7.7% in April which was well below expectations. Buyers appeared to be backing off in the face of rising interest rates with the average 30-year fixed rate mortgage moving from about 6.9% in March to peak around 7.5% in April with average rates sustaining over 7.2% through May. In addition to the challenges in pending sales, existing home sales dropped in April by 1.9% compared with March to an annualized rate of 4.14 million. On a year-over-year basis existing home sales declined by 1.9%. Key factors that may be holding back existing home sales include home pricing which was up 5.7% year-over-year as well as higher mortgage rates. New home construction, on the other hand, picked up with housing starts increasing a seasonally adjusted 5.7% in April. Although starts increased 1.36 million in the month, that pace of growth missed the consensus target of 1.42 million per Bloomberg.

Where to from here?

Heading into the next FOMC session, economic datasets point to sustained inflationary pressures, solid employment and a growing U.S. economy. The Fed remains in a holding pattern on interest rate policy, while investors look for one 25 BPS rate cut with the September 18 FOMC session (to 500-525 BPS) that remains in place into yearend. Further, investor attention is refocusing on the November elections and possible changes to fiscal and trade policies that then ensue. In the meantime, some indicators point to a slowing U.S. economy, while consensus earnings forecasts target robust earnings gains for the S&P 500 through 2025 that could prove misplaced (time will tell). We sense equity markets will continue to wax and wane this summer based upon news of the day as we all await clarity on the outlook for the U.S. economy into 2025. As such, we favor selective investment, while employing a 12-18 month, intermediate term investment time horizon.