Weekly Investment Update (10/20/2023)

This Week’s Positioning and Views

Despite rising geopolitical tensions and the ongoing chaos in Washington, the Federal Reserve, interest rates, and company earnings remain the primary drivers of financial markets. This week, rates continued to climb higher, putting renewed pressure on stocks. Further evidence of economic growth slowing is likely needed for the stock market to turn higher. Given the continued focus on the Fed, please see our commentary on Powell’s recent speech that follows.

A firsthand account of Powell’s recent speech: A member of the Bessemer Trust investment department attended Federal Reserve Chair Jerome Powell’s speech at the Economic Club of New York. Overall, we viewed this speech as more dovish than the market’s interpretation. Chair Powell opened with remarks on how the committee has seen ongoing progress toward its dual mandate of maximum employment and price stability. Labor supply has been catching up to labor demand, and restrictive interest rates are putting pressure on demand, in turn working to restore price stability. Powell noted that the economy could be less sensitive to interest rate hikes than in prior hiking cycles, in part due to termed-out corporate debt and fixed consumer rate mortgages. However, he emphasized that interest rates have not been elevated for long enough to see the full impact of rate hikes. He also acknowledged that monetary policy acts with a lag, the exact timing of which is uncertain, underscoring the Federal Reserve’s decision to pause its hiking cycle in September. On rising bond yields, he echoed the sentiment of many other FOMC members, highlighting that higher yields on long-term bonds have tightened financial conditions, and at that margin, higher yields could reduce the need for additional rate hikes. We continue to believe the hiking cycle is complete, and the Fed will now assess the lagged impacts of monetary policy on the economy.

Banks See Strong but Decelerating Economy

What is happening: With the third quarter earnings season commencing last week, around 100 companies have reported thus far, including JPMorgan and Bank of America. The two banks historically have provided valuable insights into the state of the economy and the consumer given the vast amount of financial data they gather in their business operations. In their earnings releases, both banks highlighted that consumer spending and the economy more broadly remain healthy, though there are signs of slowing activity. For example, JPMorgan noted in its transcript that “cash buffers continued to normalize to pre-pandemic levels, with lower income groups normalizing faster.” Meanwhile, the Federal Reserve’s Beige Book, a publication about current economic conditions across the 12 Federal Reserve districts, noted that the “near-term outlook for the economy was generally described as stable or having slightly weaker growth.” These soft data contrasted with stronger data released during the week, including retail sales, which came in much hotter than expected for September, and initial jobless claims, which hit their lowest levels since January.

Why it matters: While official economic data remains resilient, commentary from the largest banks and the Federal Reserve point to a slower demand environment ahead. As higher rates continue to permeate the economy and inflation remains elevated, these forces are likely to remain headwinds for consumers and businesses alike, especially those with larger debt balances and weaker balance sheets. However, higher-income consumers, who account for most of the consumer spending in the U.S., are faring better than low-income consumers and should continue to support overall spending in the near term.

Bessemer’s portfolio managers continue to invest in businesses with low leverage levels, strong balance sheets, and competitive moats that should be able to best weather the impacts of elevated rates. Moreover, Bessemer’s All Equity Model Portfolio is underweight the most cyclical parts of the market as they tend to be more sensitive to the effects of a slowing economic environment.

Weight Loss Drugs Continue to Gain Traction

What is happening: Shares of Bessemer holdings Eli Lilly, a U.S. pharmaceutical giant, and Novo Nordisk, a Danish pharmaceutical company, reached new highs this week, with the latter recently overtaking French luxury goods company LVMH Moet Hennessy to become Europe’s most valuable company on the back of strong clinical trial data and increasing demand for its weight loss drugs.

A new generation of weight loss drugs has come to market over the last few years. The Food and Drug Administration (FDA) first approved Novo Nordisk’s Ozempic in 2017 as a medication for treating Type 2 diabetes. The drug’s active ingredient, semaglutide, works by mimicking the naturally occurring hormone GLP-1, which regulates blood sugars and suppresses appetite. In June of 2021, the FDA approved an additional drug, specifically for weight loss, that has a higher dosage of the active ingredient semaglutide under the brand name Wegovy. Earlier this year, Eli Lilly’s GLP-1 diabetes medication, Mounjaro, which in clinical trials has shown even higher levels of weight loss than Wegovy, was approved by the FDA. Eli Lilly is currently seeking additional approval from the FDA for the drug to be used as a weight loss drug for people who don’t have diabetes, which would create a much larger addressable market for the drug.

Why it matters: According to the World Health Organization, over one billion people worldwide are obese, and if current trends continue, that number is expected to almost double by 2035. In the U.S., an estimated 42% of adults are obese, and obesity costs the U.S. healthcare system an estimated $170 billion each year. The new class of weight loss drugs could go a long way toward helping prevent many of the costs associated with this condition.

There are also signs that semaglutide has benefits that extend beyond weight loss and diabetes management. Recent research indicates that the new weight loss drugs are also helpful in preventing cardiovascular disease, chronic kidney disease, and even Alzheimer’s disease. The extended advantages could lead to an even wider addressable market for the drugs.

Both Eli Lilly and Novo Nordisk are working to increase supplies of drugs as much as possible to meet demand. Bessemer portfolio managers are considering the potential wide-ranging effects from an extensive take-up of the drug on a variety of sectors, such as health insurance, medical devices, restaurants, and consumer goods companies. Other notable Bessemer holdings that stand to benefit from these drugs are Cencora (formerly AmerisouceBergen), the second largest drug distributor in the U.S., which has already seen a significant boost to its revenues from GLP-1 demand, and Jabil, the largest manufacturer globally of auto-inject insulin pens, which has started to produce GLP-1 injector pens for Ozempic and Wegovy.