Weekly Investment Update (06/30/2023)

Markets Saw Strong Performance in the First Half of 2023

Markets saw strong performance in the first half of 2023 with the S&P 500 index rising over 15% year-to-date. The strong performance marks a reversal from the index’s weak performance in 2022, which saw the S&P 500 drop 19.5% as the Federal Reserve rapidly raised interest rates. Conversely, this year’s gains are due to a combination of tailwinds including the Federal Reserve beginning to conclude its hiking cycle, artificial intelligence enthusiasm, and more resilient than expected economic data. While the largest seven stocks in the index have driven significant gains for the S&P 500 over the course of this year, market breadth has improved over the past month. Cyclical sectors have started to gain traction over the past month as economic data, including strong labor market and services data, remain resilient while the Federal Reserve recently upgraded its growth forecast for the end of 2023. Going forward, we believe the combination of more stable rates and a mixed economic outlook should be supportive of risk assets.

Central Banks Reiterate Higher Rates for Longer; Lower Inflation Data Gives Room for Future Flexibility 

Although we are in an environment of slowing economic growth, economic data has continued to be resilient in response to aggressive rate hikes. Notably, GDP for the first quarter was revised up to 2.0% from a previously reported 1.3%. The upward revision was driven by services consumption and exports, paired with a downward revision to imports. Resilient service demand was echoed by Delta Airlines this week, which cited strong travel trends, signaling that the services recovery remains intact and continues to be supported by a strong labor market. With inflation data continuing to decline, as U.S. PCE softened to 3.8% (the lowest reading since April 2021), the Fed will have room to ease if needed in the coming quarters, even though it is not mentioning this flexibility amid recent hawkish rhetoric.

Economic resilience has caused central bankers to reiterate that we remain in an environment of higher interest rates for longer, with some signaling further policy tightening to come. Fed Chair Powell and ECB President Lagarde both stressed current progress on raising interest rates while reiterating the possibility that there could be further tightening ahead. Powell continues to emphasize the lag with which monetary policy impacts the economy, highlighting that policy has not been in restrictive territory for very long. Although the majority of interest rate hikes are complete, there is the possibility of additional tightening as the markets are pricing in an 84% chance of an interest rate hike at the July meeting and a 36% chance of an additional rate hike by the November meeting.

As we near the end of the hiking cycle, a more stable backdrop for interest rate expectations should be supportive of markets. Interest rate volatility has been a driver of markets in response to rapid tightening. The MOVE index, a measure of bond market volatility, has declined 45% from its peak earlier this year, indicating a now more stable market environment.

The Wagner Group’s Mutiny Is Short-Lived

Last weekend, the Wagner Group, a private Russian military organization led by oligarch Yevgeny Prigozhin, revolted against Russia’s top military leadership in an open challenge to the Kremlin. The mercenary group initially took control of the southern headquarters of the Russian military in the city of Rostov-on-Don before declaring its intention to march on Moscow. However, prior to reaching Moscow, it was announced that the president of Belarus had negotiated a deal with Prigozhin to halt the Wagner Group's advance. The terms of the deal included Prigozhin relocating to Belarus and Wagner troops returning to the battlefield positions they held before the revolt but now under control of the regular Russian military.

The aftereffects of the uprising will likely reverberate in Russia for some time. While a continued stalemate between Russia and Ukraine is likely to endure over the next several months, the Kremlin may have to expand resources to reassert control of its troops and rebuild morale. As the Kremlin seeks to consolidate power, President Putin may be more inclined to favor stronger militaristic actions in Ukraine. Alternatively, the Ukrainian counter-offensive may see additional momentum given the disarray in the Russian military.

Although the weekend mutiny drove headlines, markets were generally little swayed by the events in Russia as the S&P 500 index, crude oil prices, and interest rates all posted small moves on Monday as many investors expect the status quo of a continued stalemate. While the mutiny was short-lived, the longer-term geopolitical consequences of political instability within the Russian state as well as Russia’s near-term battlefield moves remain to be seen. Given the strategic importance that both Russia and Ukraine play in global commodity markets, Bessemer’s portfolio managers will continue to monitor developments in the Russo-Ukrainian War and the subsequent effects on equity and commodity markets.