Beyond rate cuts: Growth takes center stage

Heading into what promises to be an eventful September, many investors are probably still in the process of digesting one of the more interesting Augusts in recent memory. It may not have been obvious from its relatively modest end-of-month returns, but August’s stock market performance was about as far removed from the so-called “summer doldrums” as one could imagine.

It started with the S&P 500 extending its biggest pullback of the year and the Nasdaq 100 tech index falling into correction territory. Those moves unfolded as a soft monthly jobs report fueled concerns the economy was cooling off too much, and that the Federal Reserve wouldn’t be able cut interest rates quickly enough to stave off a possible recession.

But as subsequent data painted a more solid economic-growth picture, the market rebounded—energetically. By the time Fed Chairman Jerome Powell stated “the time has come for policy to adjust” in his August 23 speech at the Jackson Hole conference, the S&P 500 was less than 1% below its record closing high, and it ended the month just 0.3% below that threshold:

The July rotation out of tech and into small caps reversed last month—partially. The small-cap Russell 2000 declined last month, but held on to most of its July gains. The tech-heavy Nasdaq Composite followed its slight July decline with an equally small August gain, thanks to a strong rally on the final day of the month. Morgan Stanley & Co. analysts recently discussed the possibility of a cyclical downturn in the global tech market in 2025, noting segments such as semiconductor materials and the AI supply chain could be the hardest hit.¹

Declining Treasury yields and a falling US dollar appeared to show markets adjusting to the reality of lower interest rates. The benchmark 10-year T-note yield ended the month at 3.92%, down 13 basis points for the month (and up four basis points for the year). Meanwhile, consumer staples was the strongest S&P sector (followed by real estate), crude oil volatility weighed on energy stocks, and gold pushed to new record highs:

While last month’s quick market recovery was welcome, “we’re not out of the woods yet,” according to Morgan Stanley & Co. strategists. The US economy, they argue, is at a critical juncture: Growth isn’t falling off a cliff, but it is slowing, and the benefits of rate cuts “may not be felt for several quarters.” That means, for now, good (economic) news is good (for the stock market), and bad news is bad.²

Labor market data may be the focal point of the markets’ emphasis on economic growth. The monthly jobs report on September 6 will be a key test for the market, according to Morgan Stanley & Co analysts.³ Stronger-than-expected numbers may ease recession concerns, while another weak report could tilt sentiment in the opposite direction. Until there’s more evidence that growth is actually improving, the analysts note, it makes sense to favor defensive sectors such as utilities, healthcare, consumer staples, and the parts of real estate that tend to do better when growth is in doubt.⁴

Insight of the month: Japanese equities. In early August, Bank of Japan rate hikes and Japanese yen appreciation triggered an unwinding of the yen “carry trade” (traders borrowing cheap yen to invest in higher-yielding US assets), which contributed to deep losses in Japanese stocks. Morgan Stanley Wealth Management saw this as an “outstanding” opportunity for investors to “benefit from possible gains in Japanese asset values over multiple years as structural changes take hold in the country.”⁵

September volatility? As always, economic data and events on the ground will dictate the market’s path in the coming weeks, but if history is any guide, investors would be wise to be realistic about the possibility of more near-term volatility. Historically, September has been the S&P 500’s weakest month—the only one with a negative average return since 1957, although it’s been a down month only 10 more times than an up one since then.⁶

Key dates: Employment Report (9/6), Consumer Price Index (9/11), Producer Price Index (9/12), Retail Sales (9/17), Fed interest rate announcement (9/18), Housing Starts (9/18), quarterly expiration (9/20), Durable Goods Orders (9/26), PCE Price Index (9/27).

¹ MorganStanley.com. Cycle Playbook—Preparing for a Peak. 8/21/24.
² MorganStanley.com. Market Rebounds but Growth is Uncertain. 8/23/23.
³ MorganStanley.com. All Eyes on Jobs Data. 8/27/24.
⁴ MorganStanley.com. Weekly Warm-up: Valuations Matter and Defensive Quality Is Still the Best Option. 8/12/24.
⁵ MorganStanley.com. Four Reasons to Buy Japanese Stocks Now. 8/14/24.
⁶ Figures reflect S&P 500 (SPX) monthly closing prices, 1957–2023. Supporting document available upon request.

Because of their narrow focus, sector investments tend to be more volatile than investments that diversify across many sectors and companies. Technology stocks may be especially volatile. Risks applicable to companies in the energy and natural resources sectors include commodity pricing risk, supply and demand risk, depletion risk and exploration risk. Health care sector stocks are subject to government regulation, as well as government approval of products and services, which can significantly impact price and availability, and which can also be significantly affected by rapid obsolescence and patent expirations.

Yields are subject to change with economic conditions. Yield is only one factor that should be considered when making an investment decision.