Investment Commentary: Q3 2024

During the storm weekend, our business continuity team met via video conference, to focus on the safety and welfare of our colleagues. We felt immense relief and joy on Monday when we confirmed that all Modera colleagues were accounted for and secure.

We also went to task making sure our affected clients’ financial needs were handled without interruption. This past week emphasized the value of teamwork and our commitment to supporting one another and our clients. Teams in other Modera offices stepped up to handle calls and back up displaced colleagues, ensuring clients received support and that financial plans and portfolios were seamlessly and effectively managed. Rebuilding the Asheville and Western Carolina areas will take time and effort, but they will recover — stronger and better than ever.

If you wish to donate, many organizations, including the United Way of Asheville and Buncombe County and Manna Food Bank, are seeking supplies and funds.

Thank you for your support,
George Padula, CFA, CFP, Co-Chief Investment Officer

Market Commentary

A major headline of the quarter was the Federal Reserve’s (Fed) interest rate cut. The Fed Funds rate was lowered by 0.50%, from 5.25%-5.50% to 4.75%-5.00%. This announcement featured a new “dot plot,” indicating expectations for an additional 0.5% in cuts by year-end and potentially another 1% through 2025.

The Fed is aiming for a “soft landing” to maintain economic stability, leveraging lower inflation and a strong employment market for solid footing in the years ahead.

The third quarter underscored why diversification matters. While the first half of the year saw U.S. Large Cap stocks (especially a few tech names) dominate, Q3 showcased a broader distribution of equity returns across geographies, company sizes, and styles. Global Real Estate, Emerging Markets, and International Developed Equities outperformed U.S. Equities. Additionally, U.S. Small Cap companies generally outperformed Large Caps, and value-oriented stocks yielded higher returns than similarly sized growth stocks during this period.

Global real estate surged 17% in the third quarter, outperforming the S&P 500’s 5.9% and the MSCI EAFE’s 7.3%. Anticipation of rate cuts boosted the Bloomberg Aggregate Bond Index by 5.2%. U.S. High Yield bonds have gained approximately 8% year-to-date.
The third quarter underscored the importance of diversification, as market sentiment broadened from just a few “hot” sectors. Lower interest rates and a resilient economy benefited most markets in the quarter.

We believe that a globally diversified portfolio, covering various company sizes and styles, allows investors to capitalize on market rotations and protect against sudden sector changes.

Source: YCharts

A few words on the election

As we begin the final quarter of 2024, financial markets and the economy have defied the expectations. Instead of recession, the economy has grown, and inflation rates have fallen.

Many investors are concerned about the presidential election’s potential impact on the economy. While policies can influence taxes, trade, and regulation, shifts are usually gradual, and impacts are often overestimated. Election rhetoric often differs significantly from enacted policies.

Market or economic crashes don’t necessarily occur with a change in administration. Historically, the stock market has grown under both major political parties. The key drivers of market performance—economic cycles, earnings, and valuations—are far more critical than who occupies the White House.

Staying focused on these factors can lead to better investment outcomes.

Who says bonds are boring?

Rate cuts are difficult to analyze because why the Fed cuts rates may matter more than the timing or magnitude. The Fed has typically cut rates during economic crises, like in 2008 and 2020. In contrast, the current rate cycle aims for a “soft landing,” similar to the mid-1990s, which set the stage for a long economic expansion and bull market.

It’s been said that the Fed’s job is to pull away the punch bowl just as the party starts. In 2022, when the Fed raised rates, the Bloomberg U.S. Aggregate Bond Index declined 13%. In his September comments, Fed Chairman Powell stated, “I don’t see anything in the economy right now that suggests the likelihood of a recession — sorry, of a downturn, is elevated.”¹ Chairman Powell wants to keep the party going and the U.S. Bond Index has responded with an 11.6% gain over the 12 months ending September 30, 2024.
Investors who flocked to money market funds for their high, yet variable rates, will find those rates declining. Meanwhile, investors holding bonds with higher, fixed rates have seen their investments become more valuable, benefiting from both higher yields and potential price appreciation if rates continue to fall.

Why bonds now?

Our fixed income strategy focuses on four key parameters: income, diversification, quality, and risk management.

Bonds add stability to a portfolio, because they are generally less risky than stocks. Bonds generate income, which is valuable during equity market declines. Municipal bonds offer tax-free income, making them advantageous for those in higher tax brackets.

Bonds offer diversification benefits, as owning a mix of government, municipal, and corporate bonds with varying maturities reduces the risk associated with any single bond type. Additionally, bonds can be used to match future cash flow needs, allowing investors to purchase bonds with maturities aligned with upcoming expenses, like tuition.

Analyzing a bond or bond portfolio involves considering interest rates, maturity, credit rating, issuer, taxes, the overall interest rate environment, the yield curve shape, and expectations for future rate changes.

Bonds carry risks such as default, prepayment, unexpected inflation, and interest rate changes. However, a diversified bond portfolio can help mitigate these risks, particularly default risk. Despite recent challenges, maintaining balance across fixed income asset classes remains essential for effective investment strategies.

The bottom line?

With the Fed cutting rates, the election approaching, and markets near all-time highs, it’s crucial to focus on long-term financial goals rather than short-term events. While risks are inherent to investing, how investors respond can determine their success. Rather than trying to time the market for a pullback, it’s wiser to maintain a well-constructed portfolio that can withstand various market environments.

Reflections on a 20+ Year Career in Wealth Management: Bill Hansen CFA, CMT, Co-Chief Investment Officer

As you may be aware, after a combined 21 years with Parsec and Modera, I’ve decided it’s time for me to move on to the next chapter and will be retiring from the industry on December 31, 2024. It has always been a goal of mine to retire before a “normal” retirement age, however you define that (I’ll be 57 shortly). In advance of that, I’d like to share a few reflections that I have learned over time.

There are several good, valid investment strategies out there—and many bad ones.

• Focus on our pillars of broad diversification, no market timing and low cost.
• If you don’t understand something to the point where you can explain it to someone else, you should think twice about making that investment.

There are many smart people in the investment industry, but it is still hard to predict the future.

• Even if you do predict an economic event or news item correctly, the market may not react the way you think it will. I call this the “one step removed” problem, since the market’s reaction is one step removed from the data point or news item in question.
• Because of the above, don’t focus an outsized amount of your time and resources on predictions.

Emotional control is equally important in investment success as due diligence and investment research. Financial news can focus people’s attention on short-term news and trends, which can be detrimental to one’s long-term success.

• Having a financial plan, following it, and reviewing it periodically are just as important as investment selection in achieving one’s goals.
• As one of my mentors said, “don’t get too high on the highs or too low on the lows.”

From recent events in Western North Carolina:

• My neighbors and I have concluded it is better to have water with no power than power with no water.
• We are more fortunate than many.
• Disasters (natural or financial) bring out both the best and worst in people. But I have seen a lot more of the best than the worst. It is so encouraging to see neighbors coming together to clear roads, share generators, feed one another and share resources.
• Like bear markets, this too shall pass.

You will notice that many of my reflections reinforce our investment philosophy, which is why it has been my pleasure to work for our clients for as long as I have.

As always, thank you for your trust and confidence in Modera.