Farmers & Merchants Bank

The first month of the year is in the books, and small caps remain weak with a more than 5.5% gap to the S&P 500. The S&P 500 posted a monthly gain of 1.7%, but the average stock was down. Seven out of 11 sectors were down and each more than 1%. Real Estate lagged with a loss of 4.8%, whereas Communications led with a gain of 3.1%. The star of 2023, NVIDIA, put in the second-best performance in the S&P 500 with a monthly gain of 24%. Fellow Mag-7 member Tesla was the worst performer in the Index with a decline of 24%. It is now at risk of being relegated as pundits scramble for a new acronym to include more red-hot semiconductor names.

Fed Readies Cuts but Delays the Start

The Federal Open Market Committee (FOMC) left interest rates unchanged at 5.5% for the fourth straight meeting. They removed the line about additional policy firming, making it official that the peak rate is in for the time being. Fed Chair Powell, in a rare explicit statement, said that a March rate cut was not the base case. The market did not like this, and equities proceeded to go straight down following this statement. Powell said they need more confidence that inflation would hit their target despite being pleased with recent data developments. It is clear the Fed will be cutting this year, and it’s likely they just wanted to cool animal spirits a bit given the huge easing in financial conditions following the market’s recent rally.

Markets are rallying today, and maybe they have come to realize that a short delay in cutting the Fed funds isn’t material if the bias is to cut multiple times this year. It would likely take an inflation scare to change the narrative and dent equity prices. But inflation has easy comps in the next couple of months and it is unlikely to show a material acceleration. The rest of the week will still bring some Big Tech earnings, as well as the unemployment report, but markets tend to fare well for a couple of weeks when these event risks come and go.