In this week’s issue of Steady Investor, we explore the recent market dynamics impacted by noteworthy events, such as:
• The U.S. economy expands
• Fed raises rates again
• Ireland and the Eurozone economy
The U.S. Economy Expands at a Solid Clip in Q2– The U.S. economy continues to grow at a better-than-expected pace. In the second quarter, the Commerce Department reported that GDP grew at a seasonally and inflation-adjusted clip of 2.4% year-over-year, which was solidly higher than the 2% GDP growth rate reported in Q1 and outstripped most economists’ expectations. Economic strength continues to be driven in large part by the U.S. consumer, as spending rose at an annual rate of 1.6% in the second quarter. While this level of spending was a substantial step down from Q1’s 4.2% annual pace, it still comprised nearly 50% of all GDP growth posted for the quarter. Consumers pared back purchases of big-ticket items like furniture and cars in Q2, likely in response to the high level of spending posted in Q1. Consumers keep feeling better about their economic prospects as well. In July, U.S. consumer confidence rose to its highest level in two years, likely in direct response to falling inflation and continued labor market strength. The Conference Board’s monthly index of consumer confidence rose from 110.1 in June to 117.0 in July. Another key factor driving GDP growth was business investment, which grew at a robust annual rate of 7.7% and marked a steep increase from Q1’s 0.6% pace. A key driver of surging business investment was federal spending programs tied to the CHIPs Act and also the new infrastructure law, both of which earmarked big spending and tax credits for factories that make semiconductors and EVs.1
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As Expected, the Fed Raises Rates by Another 25 Basis Points – The Federal Reserve wrapped up their two-day meeting this week with another 25 basis point rate increase. This move brings the benchmark fed funds rate to a 22-year high, now at a range between 5.25% and 5.5%, and also marks the 11th rate hike since March 2022. The Fed signaled at their last meeting that this rate increase was coming, given their decision to pause rate increases at the June session. Core inflation (as measured by either CPI or the PCE price index) continues to run more than double the Fed’s target of 2%, which is prompting the Fed to tighten a bit further in an effort to cool economic activity. As seen in the GDP numbers from last quarter and jobs numbers throughout the year, higher rates have yet to stop the economy in its tracks. A key reason this has been the case is that consumers have largely locked-in low rates from a mortgage and auto loan perspective. As of the end of Q1, only 11% of outstanding household debt was ‘floating,’ meaning it is subject to change as interest rates change. Inflation has instead fallen primarily due to easing commodity prices, dramatically reduced pressure on global supply chains, falling producer prices, and in coming months, declining shelter costs (falling rents). Inflation data in the coming months will determine the Fed’s path for the balance of the year, but we would not expect more than one or two more rate increases, as the fed funds rate now sits comfortably above the inflation rate (which indicates that monetary policy is already sufficiently tight).3
How Ireland Could Make or Break the Eurozone Economy – Ireland’s share of the eurozone’s total GDP is 4%, making it a small player in a large economic region. But since 2015, Ireland has accounted for some 20% of the eurozone’s growth, not because the economy has been booming with new jobs and investment and growth, but because many multinationals have flocked there thanks to the country’s attractive 12.5% corporate tax rate. Specifically, U.S. technology and pharmaceutical giants have set up shop in Ireland to take advantage of the favorable tax treatment. Many technology companies have set up foreign headquarters in Ireland, and pharmaceuticals engage in a practice known as ‘contract manufacturing,’ where their patents exist in Ireland, but production exists elsewhere, generally in China and India. Since output is recorded wherever the patent is held, that’s accretive to Ireland’s GDP figures – even though no drugs are produced there. As a result of Ireland’s role in many complex multinational business structures, there can be wild swings in Ireland’s annual GDP numbers, which in one case saw output rise by 20% in one quarter as companies relocated there. For the eurozone, which is teetering on the edge of recession, it may be Ireland that ultimately tips it into the positive or negative.4
Three Steps to Overcoming Investor Bias – News and headlines may cause you to worry about what’s next for the market, but I recommend making decisions based on data, instead of emotional attachment.
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Disclosure