In July, the stock market experienced a strong rally, gaining 9.2%. These gains occurred despite another large interest rate hike by the U.S. Federal Reserve and news that the U.S. economy suffered its second consecutive quarter of economic contraction. The month’s gains provided much-needed relief to a market that is down 12.6% for the year.
In late July, the Federal Reserve increased the Federal Funds rate by .75%, continuing their attempt to fight inflation by slowing the growth of the economy. Most investors expected this move, and consequently it had minimal market impact. Instead, improving valuations and solid second quarter earnings contributed to a strong rally, especially in sectors that had been hit the hardest in 2022. Both Consumer Discretionary and Technology, which at one point had been down more than 30% on the year, posted double-digit gains. Even Consumer Staples and Healthcare, safer areas of the market that usually trail in periods of extremely strong returns, saw mid-single digit gains in July.
In the fixed income markets, investors are gradually becoming more comfortable with the pace of the Federal Reserve’s interest rate hikes. Yields on most U.S. government bonds stayed flat or declined during the month, and most bond holdings were able to claw back a portion of the negative returns endured at the beginning of the year. The Bloomberg Intermediate Government/Credit index gained 1.6% in July, easing the year-to-date loss to a more modest -5.3%.
Over the remainder of the summer and into fall, we expect stock market performance to be primarily driven by the pace of interest rate hikes and the upcoming mid-term elections. The Federal Reserve has made it their main priority to quell inflation, and another aggressive move is expected in September. Afterward, the Federal Reserve may be more restrained if current expectations of moderating inflation prove to be true. The health of the economy, stability of commodity prices, and U.S. Government spending policies will all be key factors affecting inflation and influencing future Federal Reserve decisions.
Mid-term elections are right around the corner. Historically speaking, the months ahead of the mid-terms are typically volatile periods for the markets. Since 1945, the average S&P 500 return for both the second and third quarters in mid-term years is negative. Fortunately, investors appreciate the relative certainty the elections bring, and the average return for the fourth quarter in mid-term years is over 6% (Sam Stovall, CFRA).
July was a great reminder that some of the best stock market returns are achieved during periods of heightened uncertainty. While elevated inflation and a contracting economy do not seem like ideal conditions for strong performance, investors are looking to the future more than the present or the past. While we expect continued market volatility over the coming months, we maintain our belief that investing in high-quality stocks and bonds will allow for solid relative performance in volatile times and the ability to participate in stock market rallies when clearer skies arrive.
As always, we encourage you to reach out with any questions or concerns.
Past Performance is no guarantee of future results. All investments carry some level of risk. The S&P 500 Index is an unmanaged, market capitalization weighted index of 500 common stocks widely regarded to be representative of the US market in general. Russell 2000® Index (U.S. Small Caps): Measures the performance of the 2,000 smallest companies in the Russell 3000®Index, which represent approximately 10% of the total market capitalization of the Russell 3000® Index. Russell Midcap® Index: Measures the performance of the 800 smallest companies of the Russell 1000® Index, which represents approximately 36% of the total capitalization of the Russell 1000® Index which is a mid‐cap index. MSCI EAFE Index: Measures the equity market performance of developed markets outside of the U.S. & Canada. MSCI EM Index: Captures large and mid cap representation across 24 Emerging Markets countries and covers approximately 85% of the free float-adjusted market capitalization in each country. Bloomberg U.S. Aggregate Bond Index is a broad-based flagship benchmark that measures the investment grade, US dollar-denominated, fixed-rate taxable bond market. Indices are unmanaged and direct investment is not possible. The Bloomberg U.S. Intermediate Government/Credit Bond Index tracks the performance of intermediate term U.S. government and corporate bonds. Indices are unmanaged and direct investment is not possible. The opinions expressed are those of the author and not necessarily those of Robert W. Baird & Co. Incorporated. Certified Financial Planner Board of Standards Inc. owns the certification marks CFP®, CERTIFIED FINANCIAL PLANNERTM and CFP® in the U.S.