2024 Year in Review
December Market Recap:
U.S. Equities moved sideways in December, the S&P 500 declined 2% while the Nasdaq Composite gained 1.3%. While month long returns appear relatively muted, investors did experience some drama this month in the form of elevated volatility and significant rotation within the market.
Market breadth deteriorated and the average stock was extremely weak in December, a month in which more S&P 500 stocks declined than advanced on 14 of 21 trading days (including 12 of the first 14 days). Market leadership again narrowed down to a handful of Mega-Cap tech stocks over the past few weeks, a trend change away from the broad market strength experienced throughout most of the summer and fall.
While Magnificent-7 and Mega-Cap Tech names surged in December, this was a month of renewed and persistent weakness in stocks and sectors that were already out of favor. This was perhaps driven to some extent by investors electing to sell “losers” late in the year to manage tax burdens. Defensive sectors like Healthcare and Consumer Staples continue to sell off and are approaching historical extremes on their relative valuations against the S&P 500. This may not be a bad place for investors to add ballast to their portfolios when searching for some cheap insurance in case the economy wobbles.
Elsewhere, pro-cyclical stocks in sectors like Financials, Industrials, and Materials also pulled back in December. This unwound recent gains, which were originally driven by an improving policy outlook for economic growth, and de-regulation. The reversal of that trade in recent weeks may reflect investors beginning to contemplate the risks and implications associated with tariffs and immigration in addition to some of the positive factors that were priced in following the election.
It’s worth noting that the first 6 months of a new Administration can bring elevated market volatility as policy expectations now must contend with reality and the details of what is eventually proposed and ultimately passed. It may be that we began to see some of that in December, with the average S&P 500 stock now below price levels seen on election day.
The Federal reserve cut rates again at their December meeting, but we have actually seen 10-year bond yields rise from 4.4% to 4.55% since the announcement! Longer term yields moved higher after Chair Powell’s suggestion that the outlook for inflation has become more uncertain, forcing an adjustment to expectations for future rate cuts. Equity markets reacted poorly to the press conference, which drove a 3% single day decline for the S&P 500, with many individual names down more than 5%.
Following a strong run throughout the year, investor expectations and optimism had approached frothy levels going into December. This was reflected in various positioning indicators, survey readings, and flows into leveraged ETFs. One benefit of the volatility experienced intra month is that some of the excess optimism has hopefully been flushed out. Investors appear more cognizant of broader risks to the outlook stemming from stretched valuations, geopolitical turmoil, rising uncertainty around inflation, and potential policy shifts under the incoming administration. However, there is no denying that positioning remains stretched and risk-taking behavior is still quite active. While investors may be more aware of immediate market risks, it does not seem they are particularly fearful of those risks.
What Drove Markets in 2024:
Equity markets followed up a banner year in 2023 by again delivering strong returns in 2024. Major U.S. equity indexes posted a second consecutive year of better than 20% returns, with the S&P 500 notching 57 separate all-time highs on its way to a nearly 25% annual gain.
Investors remained upbeat about a U.S. economy that continues to defy growth expectations, supportive monetary policy, and the ability for US companies to grow earnings faster in 2025 than they did in 2023 and 2024. Consumer spending stayed resilient, while low unemployment helped reinforce the outlook of consumers continuing to spend more in the future. An acceleration in business investment, boosted by AI prospects and fiscal stimulus, supports the outlook for future growth. This has also created scope for productivity expansion across the workforce and margin expansion for individual companies.
While 2024 headline performance was outstanding, we did see a lot of dispersion beneath the surface of global equity markets. U.S. stocks significantly outperformed their International peers in 2024, resulting in the widest margin between the two that we’ve seen this century. Strong U.S. economic fundamentals and healthy earnings growth remain impressive when compared against trends seen in foreign markets, and we’ve seen strong capital flows into U.S. markets as investors seek shelter amid increasing geopolitical risk and global economic uncertainty. U.S. companies have historically been well regarded for generally faster earnings growth, cleaner balance sheets, and higher margins than their International counterparts. The question looking ahead will be how much of this is already reflected in today’s prices, with U.S. stocks now trading at significant valuation premiums to International stocks.
Large Cap growth stocks also maintained their dominance over Value stocks and Small Cap stocks in 2024, driven by outsized gains from Magnificent 7 mega-cap tech stocks participating in the AI buildout. The strong returns we saw from this cohort led to a high concentration of market gains being generated by just a handful of stocks. This has left Value stocks trading at near record valuation discounts to Growth stocks, and we see a similar dynamic when comparing Small Cap stocks to Large Cap stocks.
High levels of market concentration present a challenge for investors seeking to maintain proper diversification. AAPL, NVDA, and MSFT make up roughly 21% of the S&P 500 and represent 63% of the S&P 500 Technology sector, while U.S. stocks now carry a near 65% weighting in the FTSE Global All Cap Index. Strategies like Global or Total Market indexes that have traditionally been tracked by investors to explicitly diversify away from single stocks are no longer as diverse in their own right because of the market cap dominance of a handful of U.S. names. We suspect that many investors employing a passive approach are not nearly as diversified as they might assume.
One could make a strong argument that diversification has not worked for investors over the past few years, but this line of thinking only holds if we continue to see outperformance from the largest stocks in perpetuity (which history suggests to be a faulty assumption). To that end, it was encouraging to see signs of a broadening trend across equity markets during the 2nd half of 2024 as the gap between Mag 7 performance and the rest of the S&P 500 began to shrink.
In the 1st half of the year, the Bloomberg Magnificent 7 Total Return Index (an equally weighted basket of Mag 7 names) outperformed the equal weight S&P 500 (representative of the “average” stock) by just over 30%. This gap narrowed in the 2nd half of the year, with Mag 7 outperformance shrinking to about 15%. Of note, nearly all of the 2nd half outperformance from Magnificent 7 stocks was realized in December alone – some may be surprised to learn that returns were roughly equal between July 1st and the end of November.
Fixed Income investors generally saw modestly positive returns in 2024, but substantially underperformed results experienced in Equity markets. The Bloomberg U.S. Aggregate Bond Index returned just over 1.5% in 2024, with Corporate and Municipal bonds faring slightly better than U.S. Treasury bonds. While the Fed lowered their policy rate by ~1% since August, this primarily affects Short-Term rates and we’ve actually seen longer term bond yields rise as a downstream impact of rate cuts, increasing policy uncertainty, and renewed concerns around inflation triggered by Fed commentary. Cumulative bond market returns over the last 3 years remain negative, slowly clawing back from double digit losses in 2022.
Despite underwhelming returns, the recent increases in long rates has extended the window for bond investors to “lock in” attractive yields for defined time periods. Higher “starting yields” also provide more of a downside buffer compared to the 0.5% to 2% yields on offer a few years ago, supporting the case that bonds can serve as a more effective hedge against a period of poor equity performance going forward.
What we are watching for in 2025:
Looking ahead into 2025, there are a few key issues we see as influential to the direction of travel in markets this year. We will enter 2025 facing a bit more uncertainty than this time last year, and investors should be on guard for a potentially more volatile backdrop in the first couple months of the year despite solid fundamentals underpinning equity markets.
As a starting point, the policy uncertainty around an incoming administration has introduced unusual complexity to the outlook for 2025. Market friendly policies like tax-cuts and deregulation could boost sentiment and provide a very real tailwind to earnings. On the other hand, announcements around trade policy and immigration have the potential to stoke inflation fears and disrupt global trade. We will also have a debt-ceiling showdown in January. Given the narrow House majority won by Republicans in November, uncertainty remains around which policies can actually be passed. Due to the nature of these issues, it would not be surprising for news flow around these items to drive intermittent volatility over the next few months.
Heightened geopolitical tensions across the globe also increase the likelihood of negative headlines and catalysts. This can impact markets through changes to investor sentiment but could also have material effects on commodity prices and economic activity. We remain vigilant for any developments on this front.
Sentiment and expectations remain challenging as we exit 2024. Expensive equity market valuations and crowded investor positioning might limit further upside in already popular stocks and market cap weighted indices. Analysts are already expecting robust earnings growth for 2025 and the optimism built into valuations today means that companies must execute on those expectations to justify today’s share prices. While valuations remain elevated at the market level, PE multiples are historically more predictive of 10-year returns and deliver limited signal on 1-year returns or on when to reduce equity exposure. The current “bull market” remains young compared to historical analogs at less than ½ the duration of the average bull market since WWII, suggesting there is still some open road in front of us if earnings continue to grow into valuations.
One key issue for U.S. equity markets centers around economic performance and how the debate between growth and inflation resolves. Throughout 2024, the U.S. economy “walked a tightrope” between inflation concerns and recession fears. Investors were at times fearful that the economy was running too hot, and that inflation was not sufficiently controlled (which would dampen prospects for rate cuts). At other times, markets were just as concerned that economic activity was slowing too quickly, placing us on the path to a recession. In the end, neither of these fears were fully validated at any point in 2024.
Ultimately, the Fed tightening cycle was specifically designed to moderate U.S. economic activity to help bring inflation under control. A market that repeatedly ping-pongs back and forth between growth scare and inflation scare might be exactly what a “soft landing” looks like to investors… before they realize they are in one. We will likely see further shifts and uncertainty around this narrative in 2025 as this is very much a two-sided risk on either side of a narrow runway. Economic data, which provides clues to the path of inflation or economic growth, will be closely watched by market participants, and the implications of incoming data for the outlook for Fed policy will be impactful to markets.
Earnings growth has historically been the most important driver of equity returns and 2025 should be no different. While valuation multiple expansion boosted equity returns in 2023 and 2024, elevated starting valuations make it difficult to count on more of this as a driver of returns in 2025. Earnings growth will need to take the reins and drive equity returns going forward, and we will anxiously await year end guidance and commentary from company management to gauge whether they can deliver on lofty growth expectations.
We began to see signs of improved breadth in market returns during the second half of 2024 as stocks outside of the Mag 7 and the Technology sector contributed more heavily to index returns at times. Whether or not we see a more consistent broadening of market performance will depend on whether we see earnings growth improve in previously unloved segments of the market.
While the rate of earnings growth in 2025 will be the most important driver of equity returns, where that growth is coming from may be just as important for the individual investors. In 2024, S&P 500 earnings growth was significantly higher than that of the equal weight S&P 500 due to the outsized growth contributions from a few mega-cap tech names. Analysts expect the gap in earnings growth to narrow quite a bit in 2025, with consensus estimates suggesting that equal weighted growth may even exceed market cap weighted S&P 500 growth by the 2nd and 3rd quarters. This reflects an expected acceleration in earnings growth for the average stock, while growth among Magnificent 7 names moderates from extremely high to still very strong levels. A more balanced growth picture would argue for broadening of equity returns and greater participation from the “average stock” this coming year.
We wish all our clients a happy New Year and a prosperous 2025 – we hope to hear from you soon. If you are interested in discussing your overall portfolio allocation or financial plan, please use the link below to schedule a meeting with us or give us a call. We remain grateful for and humbled by your trust in our team, and we look forward to continuing to earn that trust as we work on your behalf in the future.
https://www.raymondjames.com/thewiseinvestorgroup/scheduling
The foregoing information has been obtained from sources considered to be reliable, but we do not guarantee that it is accurate or complete, it is not a statement of all available data necessary for making an investment decision, and it does not constitute a recommendation. Any opinions are those of the Wise Investor Group and not necessarily those of Raymond James. Expressions of opinion are as of this date and are subject to change without notice. There is no guarantee that these statements, opinions or forecasts provided herein will prove to be correct. Investing involves risk and you may incur a profit or loss regardless of strategy selected. Investments mentioned may not be suitable for all investors. The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market. Keep in mind that individuals cannot invest directly in any index, and index performance does not include transaction costs or other fees, which will affect actual investment performance. Individual investor's results will vary. Past performance may not be indicative of future results.
