The first quarter was very strong for stocks. The S&P 500 index advanced 10.17%. Large cap technology stocks, fueled by strong profits and optimism surrounding the future of artificial intelligence again led the market. However, gains were broad based as 10 of 11 sectors were positive, and traditional value sectors like Industrials, Energy, and Financials also outperformed the S&P 500 (all data from Morningstar). Small cap stocks initially cooled off from a hot finish to 2023 before rebounding in recent weeks. Meanwhile, numerous breadth indicators confirm broad participation in the market. Our thesis that market participation will expand beyond large tech stocks is still alive and intact.
Coming into the year, the market expected 7 rate cuts by the Federal Reserve. That number is down to 3 through the end of March according to data from the CME Group. While stocks shrugged off this change in expectations, interest rates rose during the quarter, and bonds finished slightly negative. We still think bonds offer attractive returns from here for fixed income investors with a multi-year time horizon.
Recent weeks saw a few strong economic reports. The near-record streak of 23 months of declining readings in the Conference Board’s Leading Economic Index came to end in March. A rising index suggests that the economy will expand. While the declines in this indicator have not, as far as we know, led to an official recession, it is still preferable to have a rising index than a declining one. Similarly, the ISM Manufacturing Index rose back into expansion territory after 16 months of contraction.
The persistent advance of the last 5 months is historically unusual. Investors should not forget that more volatility is normal. Several key risks, such as uncertainty around inflation, Federal Reserve rate policy, the 2024 elections, and geopolitical events are likely to lead to pullbacks and/or market choppiness at some point. But long-term investors should not be deterred; the weight of the evidence suggests a healthy environment and strong returns over the course of the year.
