Big Picture
Scorching temperatures made this one of the hottest Augusts on record.[1] However, while it was quite warm outside, markets were cooling down. Despite a rally late in the month, all three major indexes had a rough go. After dropping almost -8% at one point, the Nasdaq managed to claw back enough to finish down -2.05%, the S&P 500 finished down -1.6%, and the Dow closed the month down -2.01%. Some of the market malaise was driven by corporate profits falling for the second straight quarter as firms grappled with the impact of higher interest rates. Still, a raft of reasonably positive economic reports at the end of the month pointed to normalizing economic conditions and suggests the Federal Reserve may be on a course to hold rates steady at their meeting later in September.
Equities
Equity markets soured around the globe in August.
- Large caps performed best in US markets, though they were among the worst performers in International and Emerging markets.
- Conversely, small caps struggled domestically but outperformed large caps abroad.
- 10 of the 11 sectors of the S&P were down for the month, except for Energy, which rose 1.27%, thanks to an increase in oil and natural gas prices. [2]
Fixed Income
Fixed-income markets continue to reflect expectations of higher interest rates for a more extended period.
- The US Treasury curve has flattened as the long end of the curve has come up.
- August saw 10-year yields climb for a fourth straight month, reaching as high as 4.36% before finishing the month at 4.09%.
- US bonds beat international credit, with US high-yield posting positive returns. While EM bonds outperformed European peers.[3]
Factors
In the US, factor exposure to Momentum, Quality, and Minimum Volatility outperformed the market. Across International markets, Value and Size continue to be strong contributors, with the addition of Momentum and Quality in Emerging Markets.[4]
NEWS Impacting Markets
"Soft Landing"
The Federal Reserve appears close to achieving the long-anticipated “soft landing” of the economy many have hoped for. Recent economic data at the end of August indicates that the U.S. gross domestic product in the first half of the year was slightly above 2%. Inflation expectations are nearly back to 2%, and home prices have finally started to reflect the Fed’s rate activity, with the Case-Shiller index of the 20 largest housing markets declining -1.2% in June, compared to the prior year.
Concerns of a tight labor market feeding wage pressure through to inflation have also dissipated. Employers added 187,000 jobs in August. While that is a steady pace of hiring, it’s a respite from the torrid rate of job creation during much of the past two years. It’s more in line with the pace of pre-pandemic job growth as seen in the chart below, suggesting that job growth is slowing down to more typical levels.[5]
US Downgrade
In early August, Fitch Ratings downgraded the US sovereign credit grade from AAA to AA+, citing concerns about the country’s growing fiscal deficits and governance issues.
Fitch justified the shift in ratings by highlighting a deterioration in fiscal conditions in the US and a high and increasing government debt burden, all exacerbated by the impact of political conflicts on the US government’s finances. Taken together, these negatively affect the global market for Treasurys.
This is the first significant downgrade in over ten years and aligns with a similar move made by S&P Global Ratings in 2011, during a comparable period of debt ceiling-related political gamesmanship.6
Final Thoughts
September has typically been a lackluster month for markets, and investors appear jittery. Bearish sentiment, as tracked by the American Association of Individual Investors, has jumped to 34.5%. Meanwhile, short sellers have increased bets against domestic stocks to $989 billion from $886 billion at the beginning of the year. [7]
Long-term investors would do well to heed the advice of Warren Buffet: “We don’t have to be smarter than the rest. We have to be more disciplined than the rest.” It is the disciplined investor who, staying patient in the face of a rush to action by other market participants, earns the rewards that accrue to investors over time.
1 https://www.washingtonpost.com/weather/2023/08/15/july-hottest-month-worldwide-heat/
2 Morningstar Direct as of Aug 31, 2023
3 Morningstar Direct as of Aug 31, 2023
4 Morningstar Direct as of Aug 31, 2023
5 https://www.wsj.com/economy/jobs/jobs-report-august-today-unemployment-economy-de847415?
6 Purvis, B., & Kennedy, S. (2023, August 2). US rating cut to AA+ from AAA by Fitch. Bloomberg.com. https://www.bloomberg.com/news/articles/2023-08-01/us-rating-slashed-from-aaa-by-fitch-in-echo-of-s-p-s-2011-move
7 Singh, H. (2023, September 4). Investors head into fall with jitters after summer rally. WSJ. https://www.wsj.com/finance/stocks/investors-head-into-fall-with-jitters-after-summer-rally-5e030f8b?
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