Veris Q2 2023 Investment and Economic Review
By Jane Swan, CFA® and Roraj Pradhananga, CPA
Early 2023 offered the economy and markets several hurdles. High inflation, instability in some regional banks, and a looming battle over the debt ceiling each invited speculation of a possible recession. The US economy remains resilient, supported by consumer spending with strong labor and housing markets. Manufacturing data and other leading economic numbers suggest a possible slowdown could still be ahead, and continued interest rate hikes could tip the economy towards a recession.
Labor Market in Q2
The labor market remains tight despite losing some steam through the second quarter. The economy added 1.7 million jobs year-to-date, and the unemployment rate is low at 3.6%. Of jobs lost at the height of the COVID pandemic, it is estimated that more than 90% of jobs have been regained.¹ Average hourly earnings growth remains strong at 4.4% in June, which could support consumer spending if inflation falls meaningfully. Continuing unemployment claims are low, and the rate of job cuts is declining. However, after reaching a narrow gap earlier this year, the unemployment rate for Black workers increased to 6% while unemployment rates for white workers fell to 3.1%. Historically, Black workers have frequently been the first impacted by increasing unemployment.2 This widening gap in inequality can be an indicator of higher unemployment across the economy.
Inflation in Q2
Inflation, as measured by Headline Consumer Price Index (CPI), moderated to 3% in June 2023, down significantly from the peak of 9.1% in June 2022. The Federal Reserve prefers Core CPI, which excludes the volatile food and energy segments, dipped to 4.8% from 5.9% over the same period. While core CPI remains above the Fed’s 2% target, with shelter driving the year-over-year increase, leading indicators of market rents have been predicting a drop in shelter inflation. Most CPI items rose less than 2% on a three-month annualized basis in June.
Stock Market Returns and Concentration Risk
The S&P 500 entered a new bull market in June as it went up more than 20% from its October 2022 low. US large cap stocks and international developed markets gained the most in the quarter, with all categories of risk assets positive in the quarter. In the bond market, expectations of further rate hikes by the Fed – despite slowing inflation – sent corporate and municipal bond markets lower.
For several quarters, we have been writing about the growing concentration in the S&P 500. The top 10 companies now make up over 28% of the index, with the remaining 490 stocks combining for the other 72%. Seven of these largest US companies, which many news outlets are calling the “Magnificent Seven” – Apple, Microsoft, Alphabet, Amazon, Nvidia, Tesla, and Meta – contributed 64% of the gains.
Technology, Consumer Discretionary, and Communication Services sectors were the best performers in Q2 and year-to-date 2023. These sectors benefited from the rally of the “Magnificent Seven,” on the back of the market’s fascination with the potential of generative Artificial Intelligence. Performance was strong in most sectors despite the headwinds of expectations for further rate hikes by the Fed, which could negatively impact stocks. Nvidia was up 189% year-to-date. Apple hit a $3 trillion market capitalization milestone in Q2 and has over 7% weight in the S&P 500.
A US stock market with very concentrated sources of return can pose risks or opportunities to investors who use environmental, social, and governance criteria in building their portfolios. If their ESG criteria excludes or underweights some of the magnificent seven, it is likely these exclusions posed a headwind for the investor in the second quarter. These same inclusions may benefit ESG portfolios if some of the market enthusiasm for these concentrated index positions wanes in future quarters.
Recent US Supreme Court Decisions Signal That Impact Investments are Needed More than Ever
Many in the Veris community hold strong objections to decisions of the US Supreme Court over the last 14 months. Several of those decisions directly conflict with our impact focuses including climate change mitigation, community wealth building, advancing racial and gender equity, and sustainable and regenerative agriculture. These include restrictions to reproductive freedom, reduced protections against discrimination for LGBTQ+ people, reinforcement of longstanding barriers to higher education through the abolishment of affirmative action, and limits on government enforcement of environmental protections. Some of these interventions pose additional risks to the growth of our economy.
Student Debt Relief Decision
In June, the Supreme Court ruled that the Biden plan to forgive portions of student debt is unconstitutional. Outstanding student debt owed to the US government has an estimated value of $1.7 trillion or over 6% of the US GDP.3 In 2019, prior to the temporary relief from student loan payments implemented during the pandemic, annual payments on these loans exceeded $70 billion. Studies of older student debt relief programs suggest that debt relief benefited people with a range of outcomes including more flexibility to seek better employment opportunities that might require relocation and greater opportunities to get married or have children.4 This relief joined a collection of other government benefits introduced during the last 6 years that significantly increased the ability of individuals to spend money on goods and services, which has supported economic growth despite expectations of a recession in 2023.
Tax cuts introduced in 2017 (that are scheduled to expire at the end of 2025), direct COVID related stimulus to taxpayers in 2020 and 2021, and benefits to a large portion of Americans through COVID emergency student loan relief along with a promise of significant loan forgiveness have all contributed to high consumer spending. Each of these economic stimulants, collectively increasing funds available to individuals by an amount exceeding 5% of annual GDP.5 Continued GDP growth since the beginning of the COVID pandemic has been largely attributed to consumer spending, reinforced by each of these tax reductions, rebates, and debt relief. While extension or expiration of tax cuts are in the hands of congress, removal of student debt relief as decided by the Supreme Court, are likely to impair spending and decision making for workers with student debt. According to the Federal Reserve, Black and Hispanic borrowers are more likely to be behind on their student loans payments than white borrowers and the student loan repayment relief helped improve their repayment status.6
Decision to End Affirmative Action
We believe that the Supreme Court’s decision to end affirmative action for college admissions highlights the need for investments in excluded communities and investments geared to reduce biases and disrupt the economic implications of long-standing structural racism.
EPA Decision and Climate Change
Recent high temperatures across much of the US have long term economic implications, also impaired by the 2022 Supreme Court decision in West Virginia vs the Environmental Protection Agency (EPA). This decision prevents the government from intervening to shift energy creation from coal and other carbon intensive sources to clean energy sources,7 a move necessary to limit climate change.
Meanwhile, June of 2022 was the hottest June on earth.8 In addition to catastrophic threats to life from this type of heat, there are economic implications. Extreme heat events limit economic activity through reducing consumer spending on travel and outdoor events.9 It also reduces the productivity of workers who work outside. In the US, an estimated 32 million workers spend a significant portion of their time working outside.10
During extreme heat, workers must take additional breaks to hydrate and reduce body temperatures or they face potential life-threatening health events. A global study conducted from 1992 to 2013 estimated extreme heat to impair GDPs of high-income regions by 1.5% and to reduce GDPs of low income regions by 6.7%.11 With heat in recent years much higher than the periods of this study, the cumulative expense of neglecting climate change has likely only grown.
We believe the current restrictive stance of the Supreme Court offers several calls to action for impact investors. Despite EPA constraints on protecting the environment, clean energy jobs grew in all 50 states in 2022.12 Private and public investment in recent decades have led to technology improvements and economies of scale so that wind and solar projects are now cheaper sources of energy than coal, gas, and oil.13
A Note of Gratitude to Our Clients
With our dual mission of helping clients have a positive impact with their investments while meeting their financial goals, Veris again is grateful to our clients for their dedication to this mission. The return to a bull market is a perfect opportunity to reassess spending goals and be sure that spending plans are protected in your portfolio. We are proud and honored to do this work with you.
Jane Swan is a Partner & Senior Wealth Manager at Veris Wealth Partners and a Chartered Financial Analyst (CFA®). Read Jane Swan’s Full Bio.
Roraj Pradhananga is a Partner & Managing Director of Research at Veris Wealth Partners and a Certified Public Accountant (CPA). Read Roraj Pradhananga’s Full Bio.
References
1 https://www.nytimes.com/interactive/2022/03/11/us/how-covid-stimulus-money-was-spent.html
3 https://slate.com/business/2021/03/student-loan-total-annual-government-payments.html
4 The Value of Student Debt Relief and the Role of Administrative Barriers: Evidence from the Teacher Loan Forgiveness Program Brian Jacob, Damon Jones, and Benjamin J. Keys NBER Working Paper No. 31359 June 2023
5 https://www.brookings.edu/articles/did-the-2017-tax-cut-the-tax-cuts-and-jobs-act-pay-for-itself/ ; https://www.bea.gov/news/2020/gross-domestic-product-fourth-quarter-and-year-2019-advance-estimate ; https://www.nytimes.com/interactive/2022/03/11/us/how-covid-stimulus-money-was-spent.html
7 https://www.nrdc.org/stories/supreme-courts-epa-ruling-explained
9 https://www.nytimes.com/2023/07/18/business/extreme-heat-economy.html
10 https://www.nytimes.com/2023/07/18/business/extreme-heat-economy.html
11 https://www.science.org/doi/10.1126/sciadv.add3726
12 https://www.energy.gov/articles/doe-report-finds-clean-energy-jobs-grew-every-state-2022
Disclaimer
The information contained herein is provided for informational purposes only and should not be construed as the provision of personalized investment advice, or an offer to sell or the solicitation of any offer to buy any securities. Rather, the contents including, without limitation, any forecasts and projections, simply reflect the opinions and views of the authors.
All expressions of opinion reflect the judgment of the authors as of the date of publication and are subject to change without notice. There is no guarantee that the views and opinions expressed herein will come to pass. Additionally, this document contains information derived from third party sources. Although we believe these third-party sources to be reliable, we make no representations as to the accuracy or completeness of any information derived from such third party sources and take no responsibility therefore. Information related to the performance of certain benchmark indices is provided for illustrative purposes only as investors cannot invest directly in an index. Past performance is not indicative of or a guarantee of future results. Investing involves risk, including the potential loss of all amounts invested.
