June was a big month for equity markets with the S&P 500index gaining 6.61%. As such, Q2 2023 produced a nice index gain of 8.74%, its third consecutive positive quarter. Dispersion among the indexes continued in Q2 as large capitalization technology stocks benefited the most. For example, the Nasdaq 100 index was up 15.16% during the quarter whereas the S&P 500 and Dow Jones Industrial averages gained just 8.74% and 3.41% respectively. Nevertheless, the S&P 500 ended the second quarter at a 14-month high.
It's worth noting that a small number of stocks have accounted for all of the market gains this year. The S&P 500 was up nearly 17% in the first half of the year but without 44 stocks (less than 10% of the issues in the index) the index would have been negative. In May it was a mere 8 stocks producing all of the index gains. This just illustrates how little breadth we’ve seen which could make further rallies more difficult.
Investors continued to focus on moderating inflation and what some economists termed a “hawkish pause” by the Federal Reserve. U.S. inflation declined by 0.1% month over month which was down from a 0.4% increase in April. The Fed saw these and other data points as reasons to hike short term interest rates by 25 basis points in May and keep rates unchanged in June. The Fed continues to target a 2% inflation rate, but some analysts don’t believe that’s a realistic target. For example, JP Morgan believes global core inflation will remain above 3% through at least the remainder of the year. This means that further tightening may be in the cards going forward. JP Morgan also believes that the U.S. will enter a mild recession somewhere near the end of 2023 as “the restrictive policy stance from the Federal Reserve (Fed) creates tighter credit conditions, gradually dragging down growth”. A recession is also supported by an inverted yield curve. Others believe that a slowdown in inflation and a healthy consumer have increased the hope for a soft landing.
There was also some consternation over the U.S. debt ceiling but as typically occurs congress raised the ceiling, once again kicking the can down the road. Another issue that seems to be behind us is the rate of bank failures. They seem less likely today than they did a few months ago. That said, worries remain in the background such as the war in Ukraine, the U.S. and China diplomatic relationship and domestic politics. Will the markets continue to climb the proverbial wall of worry or will something unexpected undermine returns? Regardless, we believe that our strategies have a place in investors’ portfolios.
In general, our models performed well during the quarter led by our relative value strategy which was up 25.97%. This occurred as volatility shrank throughout the quarter. Our diversified portfolio posted a gain of 1.42% in spite of significant short positions in both our hybrid momentum and counter-trend portfolios. Year to date, all of our models were positive again led by relative value. Our counter trend model was slightly positive, which weighed down the diversified portfolio to a gain of just 7.75%.