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By Sid Vaidya
• May 8, 2024
Chief Investment Strategist at TD Wealth

In the first quarter of 2024, we saw a big divergence in performance between fixed income and equities. Stronger than expected economic activity and persistent inflation prompted a significant recalibration in rate cut expectations for 2024 – from six or seven cuts to just two or three cuts.

Consequently, yields rose, negatively affecting bond prices. At the same time, the economic resiliency supported corporate earnings growth and investor confidence, sparking an equity market rally. Overall, Q1 proved to be a solid quarter for balanced investors.

The Fight Against Inflation

While recent inflation and jobs data have gotten more attention, it's important to reflect on the broader trends of the past 12 months. Inflation has softened considerably, while the labor market is showing more balance between job demand and labor supply, indicating that Federal Reserve (Fed) policy has begun to make an impact.

As previously noted, addressing elevated inflation resembles a weight loss journey, where shedding the final pounds may require a prolonged effort. Similarly, we are expecting a "higher for longer" interest rate environment and, as a result, we foresee inflation gradually moderating and the labor market softening further over the next couple of years.

Our current base case is for one, 25 basis point rate cut by the Fed in 2024. However, it's crucial to note that our forecast remains contingent on inflation, jobs, and consumer spending data reported in the coming months.

While Fed members have expressed a desire to reduce interest rates, they are also waiting for a clear sign that inflation is on a sustained path towards their 2% target before pivoting to cuts. Given the resilient economic backdrop, we expect the Fed to exercise patience and avoid premature rate cuts that could reignite inflation. Lastly, according to the Fed's forecast, interest rates are projected to be approximately 200 basis points lower by the end of 2026 compared to current levels.

In this environment, we believe investors should refrain from trying to predict the timing of any initial cut or the precise trajectory of Fed policy. The focus now should be on the likelihood of lower interest rates over the next two to three years and the opportunity this provides investors.

What About the Presidential Election?

2024 is an election year and it's important for investors to differentiate between the short and longer-term impacts of presidential elections. Historically, market volatility has tended to increase as elections draw near and uncertainty becomes heightened. However, it's crucial to examine the broader picture. How have past election results influenced subsequent market returns? When analyzing the data from the past 15 presidential terms, average annual returns have generally remained positive regardless of the party or individual in power (see chart below). Furthermore, over the last 40+ years, the S&P 500 has generally exhibited positive growth throughout presidential terms.

While there will undoubtedly be extensive media coverage and discussions surrounding polls and policy platforms leading up the election, it's important not to let the noise derail your investment strategy. Expect short-term fluctuations but remain committed to your investment objectives and staying invested.

Given this outlook, we maintain a slight preference for fixed income over equities but do see select opportunities in both asset classes. In fixed income, we prefer short-term bonds, intermediate Treasuries, and municipal bonds. In equities, we favor U.S. over international equities, and within the U.S., we have a slight preference for large cap equities over small and mid-cap equities.

Fixed income and balanced investors are currently enjoying a healthy level of interest income, a stark contrast to the low yields experienced over the past decade. While rapid rate cuts by the Fed may offer capital gains, investors would then be left with the prospect of lower interest income in the future. In the near term, we believe fixed income investors stand to gain from an environment of higher for longer interest rates.

As for equities, opportunities remain but investors should focus on higher quality companies capable of maintaining revenue and earnings growth, while generating positive cash flow growth, even in a higher interest rate environment.

TD Wealth® Important Information

TD Wealth® is a business of TD Bank N.A., Member FDIC (TD Bank). Banking, investment management and trust services are available through TD Bank. Securities and investment advisory services are available through TD Private Client Wealth LLC (TDPCW), a US Securities and Exchange Commission registered investment adviser and broker-dealer and member FINRA/SIPC. Epoch Investment Partners, Inc. (Epoch) is a US Securities and Exchange Commission registered investment adviser that provides investment management services to TD Wealth. TD Bank, TDPCW and Epoch are affiliates.

Capital market expectations are estimated projections of general market performance and economic conditions and are not intended as an offer or recommendation to invest in a specific asset or strategy or as a promise of future performance. The views expressed are subject to change without notice based on economic, market, and other conditions. Information and data provided have been obtained from sources deemed reliable but are not guaranteed.

The information contained herein is current as of April 2024 and is for educational purposes only. All expressions of opinion are subject to change without notice based on shifting market conditions. It is general in nature and not intended for as a recommendation for any specific investment product, plan, strategy, or other purpose. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness, or reliability cannot be guaranteed.

The policy analysis provided in this article does not constitute and should not be interpreted as an endorsement of any political party.

By receiving this information, you agree with the intended purpose described above. Any examples used in this communication are generic, hypothetical and for informational purposes only. TD Wealth® and its affiliates and representatives do not suggest that the recipient take a specific course of action or any action at all. TD Wealth® and its representatives do not provide legal, tax or accounting advice. Prior to making any investment or financial decisions, an investor should seek the individualized advice of their personal financial, legal, tax and other professionals that take into account all of the particular facts and circumstances of an investor's specific situation. TD Wealth® and its affiliates are not liable for any errors or omissions, and you understand that TD Wealth® is not responsible for any loss sustained by any investor who relies on this communication.

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