Fabian Estevez

By the end of 2023, global central banks were poised to initiate significant interest rate cuts. However, as the year progresses, persistent inflation and economic resilience led to a reassessment of these expectations. In this context, we share some of the perspectives they recently conveyed to the markets.

Federal Reserve (Fed):

• Revised projections: Fed Chairman Jerome Powell noted earlier this year that initial projections of multiple rate cuts were too optimistic. The new expectation is for only one or two rate cuts by the end of 2024, rather than the three previously anticipated.

• Economic resilience: Despite inflationary pressures, the U.S. economy and labor market showed resilience, which implies closer monitoring prior to implementing cuts. 

European Central Bank (ECB):

• Monetary policy tightening: The ECB recently made a modest rate cut, although it emphasized a cautious perspective due to continued inflation and economic uncertainty. In particular, its members warned of “bumps in the road” as they navigate these challenges.

• Geopolitical concerns: Events such as French President Emmanuel Macron’s decision to call early parliamentary elections added uncertainty, influencing market expectations and possible forward-looking decisions by the ECB. 

Bank of England (BoE):

• Rate cuts delayed: The BoE postponed on several occasions the anticipated rate cuts, which could materialize in the third quarter of the year, in line with consensus forecasts. This is despite a significant reduction in headline inflation, as steady wage growth keeps the BoE cautious.

As can be seen, the desired 2024 monetary easing cycle has lost momentum, largely due to persistent inflation, particularly in sectors such as services and robust economic activity. Central banks have therefore found it necessary to recalibrate their strategies to a more cautious approach, which could involve more gradual adjustments to short-term interest rates, so that this move allows them to bring inflation consistently toward their long-term targets.

Expectation for the monetary policy of Central Banks in Developed Countries

Source: Capital Group

Prior to the Federal Reserve (FED) announcement, it was reported that May’s inflation decelerated to 3.3% annually, compared to the expected 3.4% and the previous month’s rate. It is important to note that, on a monthly basis, inflation remained unchanged. Core inflation also improved, coming in at 3.4% annually compared to the expected 3.6% and the forecasted 3.5%. In this context, the FED made the unanimous decision, widely anticipated by the market, to maintain the target range for the federal funds rate at 5.25% – 5.50% (its highest level in the last 22 years).

The statement reiterated that the latest employment indicators have shown solid performance, while inflation has decreased over the past year, although it remains elevated. It highlighted that there has been modest progress toward the Committee’s 2% inflation target in recent months. Therefore, the Committee reiterated that it does not expect it to be appropriate to reduce the target range of the reference rate until there is greater confidence that inflation is moving sustainably toward its objective, while remaining very attentive to inflation risks.

On the other hand, the FED updated its macroeconomic outlook, significantly adjusting expectations for possible cuts to the reference rate. It now anticipates only one cut of 25 basis points (bps) for the remainder of the year, down from the March estimate, which suggested the possibility of three cuts (the market had been expecting two cuts). Thus, the federal funds rate would end the year at an average of 5.1%, compared to the current 5.4% and the previously anticipated 4.6%. For 2025, the new estimate suggests that the rate would stand at 4.1%, up from the previously forecasted 3.9%. Regarding the economic outlook, the GDP growth expectation remains at 2.1% for 2024 and 2% for 2025. The unemployment rate did not undergo significant changes for either year, remaining around 4%. However, estimated core inflation (excluding volatile components such as food and energy), measured through the Core PCE, rebounded slightly to 2.8% from 2.6%, while the estimate for 2025 rose slightly to 2.3%.

During his press conference, Jerome Powell commented that monetary policy is well-positioned and that if the economy remains strong and inflation persists at elevated levels, the FED would be prepared to maintain rates within the current range. He also emphasized that the FED’s estimates are not necessarily indicative of the decisions the Committee might take. Finally, Powell stressed the importance of seeing consistent improvement in inflation before applying a rate cut. He reminded that the baselines for inflation on an annual basis for the remaining months of the year will not be easy to surpass, which could result in continued elevated readings.

FED Indicators Update (June vs. March)

Source: Federal Reserve

With an advance of approximately 95% of the votes counted, Claudia Sheinbaum Pardo, representing the ruling coalition (Morena, PT and Green Party), will be the first woman president in 200 years of independent life in the Mexican Republic. In this sense, it is noteworthy that her victory was overwhelming having counted ~59% of the votes, which represented a difference of more than 30 points against the opposition candidate. With this, Claudia Sheinbaum registered more votes than López Obrador obtained in the 2018 elections and becomes the president with the most votes in Mexico’s history. Claudia Sheinbaum was previously head of government of Mexico City (2018-2023), head of the Tlalpan mayor’s office (2015-2017) and secretary of the Environment (2000-2006). On the other hand, citizen participation ranged between 60% and 61.5%, lower than that seen in 2018 which was 63.4% and the average of the last five elections which stood at approximately 65%.

In this context, the ruling coalition won 7 of the candidacies that were at stake, with an outstanding victory in Mexico City, as well as the victory in the state of Yucatan, which was governed by the opposition for many years. Regarding the new conformation of the Congress, it is expected that the ruling coalition will reach the constitutional majority in the Congress of Deputies and by a very small margin will obtain a qualified majority in the Senate. Therefore, the Morena party consolidates for the third consecutive time (2018, 2021 and 2024) as the first force in the Congress of Deputies and for the second time in the Senate of the Republic (2018 and 2024). The new Legislature (LXVI) of the Congress will begin its functions on September 1, 2024, where President López Obrador’s mandate will come to an end on the 30th of that same month. That said, the new legislature will coincide with the current president for 30 days. The inauguration of the new president will be on October 1.

Finally, some of the challenges that this new government will face during the first half of its six-year term will be related to reducing the budget deficit (around 6%, the highest in 25 years), the elections in the United States, the review of the T-MEC, capitalizing on the opportunities linked to nearshoring, avoiding institutional weakening and reducing insecurity rates in the country.

Recomposition of states governed by the ruling coalition (Morena and allies) vs. opposition bloc (PRI – PAN) and Movimiento Ciudadano. 

Source: Holland & Knight with information from INE

The importance of the consumer within the U.S. economy cannot be underestimated, being the main engine of growth, accounting for ~70% of its Gross Domestic Product (GDP). For this reason, we present some perspectives because, so far, the consumer has shown resilience, supported by a strong labor market, excess savings in the wake of the pandemic, and wage increases. However, some deterioration has begun to show, which could imply some challenges in the short-term. Important points:

• Deteriorating consumer sentiment and record indebtedness: Consumer confidence has now fallen for three consecutive months in the face of high interest rates and persistent inflation. On the other hand, household debt reached a record US$17.7 trillion in the first quarter of 2024, with default rates rising, especially on credit card debt. Despite this, debt servicing costs remain manageable because 75% of households have a mortgage with a 4% rate, compared to the current rate of around 7%.
• Caution in consumption patterns, with healthy balance sheets: Consumers, especially in the lower income segments, are becoming more cautious with their spending. This trend was evident in recent retail sales reports, as well as in the recent quarterly reporting season, where companies such as Amazon and Pepsi emphasized a preference for more economical options. For their part, household balance sheets prevail strong, supported by a rising stock market, rising home values and higher interest rates on savings accounts, allowing families’ net worth to increase. The mix of these elements has been a key component in the resilience of consumer spending.
• Real wage growth: The combination of healthy labor markets and the disinflationary process have contributed to growth in real incomes over the past 12 months. While there are some concerns that this favorable trend may stall as the labor market cools and inflation remains stable, there is reason to believe that this dynamic in wages will continue.
• Increased signs of defaults: In this regard, the FED in New York cited that nearly 1 in 5 borrowers are now “maxed out” on their credit cards and that the percentage of balances moving into serious default (i.e., 90 days past due) has risen to the highest level since 2011. While this is usually a worrisome sign for an economy driven by consumer spending, total outstanding debt at some point in default (~3.3%) is still quite low.

Under this context, economic growth estimates for this year remain around ~2.3%, supported by modest employment generation, the ability to continue witnessing increases in real wages and household net worth at record levels (US$156 trillion at the end of 4Q23).

Household debt service payment as a percentage of disposable income

Source: Raymond James 

Practically in the home stretch, with just over 90% of the S&P 500 sample having reported their numbers, below, we share some relevant takeaways and perspectives from the first quarter earnings season of the year.

• Reasonable earnings growth: Despite general economic concerns amid high interest rates and a pickup in inflation, S&P 500 earnings beat expectations after the index reported 6% annual growth in earnings per share (EPS), exceeding the anticipated growth of 3%.

• Sector performance: The Communication Services (+38%), Utilities (+30%), Information Technology (+24%) and Consumer Discretionary (+24%) sectors posted the strongest annual earnings growth. While Brent crude oil prices in the 1Q24 prevailed unchanged versus the prior year, natural gas prices collapsed 24% and aligned more closely with the 26% and 21% annual decline in earnings in the Energy and Materials sectors, respectively. Finally, EPS in the Healthcare sector also declined 26%, albeit primarily due to Bristol-Myers Squibb’s (BMY) one-time expenses related to its acquisition of the Karuna company.

• Mixed consumer signals: Companies in the Consumer Discretionary and Consumer Staples sectors provided mixed outlooks, with some noting a slowdown in consumer demand while others reported strength. For example, McDonald’s outlined a more selective spending, while American Express noted an 8% annual increase in customer spending.

• Increased investment in Artificial Intelligence (AI) continues: Companies such as Amazon and Meta announced substantial investments (CAPEX) to improve their AI capabilities. In this context, this focus on AI is expected to drive future productivity gains and revenue expansion.

• Performance and expectations of the “Magnificent 7”: This block of companies, comprising AAPL, AMZN, GOOGL, META, MSFT, NVDA and TSLA, reported combined earnings growth of 48% YoY. This robust growth was driven primarily by a substantial increase in their sales and a significant expansion of their profitability margins. For example, META and GOOGL led the group with a sales growth of 27% and 15%, respectively. In contrast, AAPL and TSLA experienced sales declines of 4% and 9%, respectively. The outlook for these companies remains strong, especially for those investing substantially in AI. Although their numbers were positive overall, there is significant dispersion among their financial results within the group.

Market forecasts: Based on the above, the consensus estimates that the EPS of the S&P 500 for the whole of 2024 would reach US$244, which would imply an annual growth of 9%. By 2025, the EPS would reach US$277, which would represent an annual increase of 13%.

S&P 500 sales, margins and earnings growth in the 1Q 2024:

• EPS refers to earnings per share.
• SPS refers to sales per share. 

Source: Goldman Sachs