Capital Market Review - Fourth Quarter 2024

Key Takeaways

• Each year, markets are faced with various positive and adverse events. Many are seemingly significant at the time, but when looking back, they are nothing more than a blip in the market’s longer-term picture.
• The S&P 500 Index, led by the largest companies, was the best performer in 2024. Other areas of the market did well, like small company stocks, but still trailed their large company peers.
• Longer-term bond yields continued to increase this year despite the Federal Reserve cutting interest rates, with a strong economy and inflationary fiscal policies as the primary drivers. Bonds are paying their highest yield in years, offsetting much of the increase in rates and still making bonds attractive investments.

In keeping with the theme of Spotify (or Apple Music) year-end wrap-ups, I reviewed articles and notes I saved throughout the past twelve months. Like in previous years, I am once again surprised that events that were significant just a few months ago are now nothing more than a blip on the radar.

Geopolitical conflicts have become the unfortunate normal, especially in the Middle East, and have not had much impact on market returns. There were some positive developments, like the ceasefire between Hezbollah and Israel and the toppling of the Assad regime in Syria. But these are typically negative events, like the Russia/Ukraine war passing 1,000 days since the Russian invasion without much of an end in sight.

There was uncertainty in U.S. trade when Baltimore’s Key Bridge collapsed after a collision with a container ship. Fortunately, there was not much of an economic impact as surrounding ports were able to fill the void until Baltimore could reopen. Then, later in the year, the East and Gulf Coasts longshoremen went on strike, fighting for better wages and protection from automation. They reached a temporary agreement last fall, but it expires January 15th, so we could be revisiting this topic soon.

From the stock market’s point of view, the most volatile period of 2024 was at the beginning of August when some weaker-than-expected U.S. economic data combined with Japan hiking interest rates to send fear across global markets. Of course, this was short-lived as global markets climbed higher throughout the rest of the year, and the U.S. economy grew close to 3%. Still, at the time, many were worrying it was the beginning of a longer-term drawdown.

The final four months of the year brought on the start of the Federal Reserve cutting short-term interest rates. Across three meetings, the Fed lowered short-term interest rates by 1%, bringing the Federal Funds rate to just below 4.5%. The more significant event in the bond market was the increase in longer term rates, which typically does not happen when the Fed begins rate cuts. However, we will discuss that more below.

Finally, how could we not mention the elections? Not just the contentious U.S. Presidential election, but globally, it was a year of elections, or should we say the year of challenger victories. About half of the world’s population went to the polls in 2024, and 80% of the victors were those challenging the incumbent.

Year to year, the only thing we can guarantee is that unpredictable events will happen. For that matter, even predictable events with unpredictable outcomes will continue to occur each year, reinforcing our belief in maintaining a diversified portfolio. We will never know which event will be a minor blip or a significant impact. However, a diversified allocation, rebalanced to target allocations, removes emotion in the short-term and generates consistent, results over the longer term.

Stocks

Stocks put together strong returns last year, especially the largest companies, which again were the top performers. Looking at the past two years, the S&P 500 Index has increased 58%. This is the best two-year period since the lead-up to the dot-com bubble in 1998, which saw the index climb 71%. This data should not be taken as a signal that we are looking at a repeat of the bubble bursting. Today’s top companies are not the same as the tech bubble companies. The current top performers have continued to grow their earnings. And while they might be expensive, they continue to meet elevated expectations, proving they are quality companies we want to own in portfolios.

Although we want to own the largest companies, concentration remains a risk for the stock market, at least in the near term. The ten largest stocks in the S&P 500 Index currently account for 39% of its allocation, and there has never been a time when this was a bigger allocation. While we all own these stocks, we also need to look beyond to other companies delivering exceptional returns. Looking at the entire U.S. stock market, as measured by the Russell 3000 Index, 120 companies returned more than 100% last year, and 777 stocks outperformed the S&P 500’s 25% return in 2024. Even though the largest stocks are dominating headlines and many portfolios, there are still opportunities outside these select few companies to do very well.

Other parts of the market also performed well; U.S. small caps were up 11.5% and had what we consider a good year. International stocks are a similar story, returning 5.5% in a year is not a horrible return. However, when we compare both against their large-cap peers, those returns do not look as good. Maintaining exposure to all areas of the market is important for when this large-cap trend changes. Small caps and foreign stocks will have their time, and since we do not know when, we want to maintain exposure to all markets. When markets rise, not all investments will increase the same amount. But markets change over time, and areas that are frustrating to see lag right now can become the best performers in the future.

Bonds

As we entered 2024, bonds were expected to provide portfolios with strong returns. Yields had been rising the past few years, increasing the income bonds pay. Combine that with upcoming Federal Reserve rate cuts, which have historically led to falling longer-term rates (bond prices rise as rates fall), and it should have been a pretty good environment for bonds. But markets had other ideas. Hence, why timing markets is so difficult; just because something makes sense and has happened in the past, does not mean it will happen every time.

Explaining why longer-term rates are increasing this time around is easier said than done. Before getting into reasons why longer-term rates have risen, we must remember that the Fed only controls the Federal Funds rate. Any bond that matures more than a few days from now is controlled by markets (i.e., investors buying and selling).

U.S. economic growth is one of the key factors putting pressure on rates to increase. Most of the time, when the Fed is forced to cut interest rates, it is because something went wrong in the economy, and they are using lower rates to support a recovery. Currently, the economy is growing at about 3%, consumers are spending money, and the labor market is strong. The Fed’s reasoning behind cutting rates was to prevent higher rates from causing a slowdown, and they want to be proactive by lowering rates; maybe this is the market telling the Fed that they moved too early.

Inflation, paired with a growing economy, has moderated, and the government will most likely continue to increase deficits, both factors leading to higher bonds rates. We all know inflation’s story: very low for over a decade, just to peak around 9% in 2022, and has since slowed to increase under 3%. Inflation is currently at 2.7%, according to the Consumer Price Index, and while that is a positive compared to the past couple of years, it is not at the Fed’s 2.5% target. Add in continued government spending paired with enforcing other inflationary agenda items, and the market is determining rates should be higher, at least for the time being. As the market determines the appropriate level for rates, bonds continue to pay some of the highest income in years, offsetting the price movements for portfolios.

Politics

Most of us are over politics and looking forward to (hopefully) a year of watching television without seeing constant political advertisements. However, when it comes to investments, changes in the political landscape can create a feeling that something needs to be done in our portfolios, especially after such a divisive election.

For investors that feel the need to make a change to their investments, ask yourself how your day-to-day life is going to change because of the election results. Whether happy or disappointed with the results, your spending habits will most likely not change much. You will still go out to eat, go on vacations, or put money into home improvements, to name a few. These actions drive economic growth and how many companies perform, not which party has control in Washington D.C.

Presidents tend to get all the credit when things go well, and all the blame when there is a negative market. But Presidents do not control stock market performance. They might impact short-term market performance, but long-term results are determined by the performance of the underlying companies. The market’s rally we experienced after President-elect Trump was named the winner was not because he won, but because we knew who won, removing uncertainty from the market. Granted, the individual stocks that did well were because of who won, but the broad rally was due to not having a drawn-out recount process.

Whether you are pleased or disappointed in November’s results, try not to let it impact how your portfolio is invested. We will have many more elections in our investment lifetime, and do not want to allow ourselves to make emotional changes because of politics. In the longer term, this election and the next Presidency will likely be minor parts of the market’s long-term track record.

Author: Joe Clark, CFA | Director of Research | Allegheny Financial Group | January 2025

The information included herein was obtained from sources which we believe reliable. This chart is for information purposes only, does not represent any specific investment, and is not intended to be an offer of sale of any kind. Past performance is not a guarantee of future results.

Allegheny Financial Group and Allegheny Investments are SEC Registered Investment Advisors.