In 2024, we have seen US inflation repeatedly exceed expectations, gasoline prices creep higher, gold break out to all-time highs, feverish speculation in cryptocurrency and segments of the equity market, bonds sell off, and US corporate bond spreads remain tight. In short, over the past two and a half months the case for Federal Reserve rate cuts has taken on some serious water. Consequently, this leaves us an important question: What will the Fed do next? (Chart 1).

The Fed will have to decide if they will get ahead of the curve and beat back the expectations of imminent rate cuts that it raised in December or have to deliver the promised rate cuts. The macro backdrop is no longer very supportive of easier policy.

Their decision will have dramatic implications for asset prices and asset allocation decisions. An added complication is the US presidential election. The Fed would not want to start a new cutting cycle around the build up to the election. Therefore, the clear window for the Fed to move forward with cuts would be June or December (unless a crisis forces its hand).

Initially, we believe the temptation will be to “do nothing” and attempt to gather more information. This itself will have asset market implications. With no excess liquidity pushed into markets, the easier policy trade could begin to unwind. Remember, liquidity is already contracting barring intervention. If the hope for cuts is removed, it could change animal spirits. (Chart 2).

Eventually, we believe big drops in stocks could prompt Fed cuts; and big rallies will further ease financial conditions and rekindle the very inflation that the Fed thought it had smothered. It is a recipe for a range-bound and volatile year, with asymmetric downside risk. Ultimately, strategic asset allocations will struggle in this new normal of higher inflation, more dramatic policy interventions, and reversing correlations. (Chart 3).

The aforementioned leads us back to our 2024 outlook for asset prices. Covid stimulus delayed the onset of a recession but did not cancel it. It is easy to get complacent when the market goes through a stretch like it’s had over the last five to six months. However, we still believe risks will be skewed to the downside this year as the economy has yet to feel the brunt of the last two year’s significant tightening. Since the beginning of the year, we have remained neutral in our risk exposures to take advantage of a blow off rally. We anticipate de-risking our portfolios but are waiting for tactical indicators to show the bull market is losing steam. The path of least resistance is still higher, and we do not want to dial back risk exposure too early. We acknowledge this view is further from consensus, but so was our pro-risk view last year when a record number of economists expected a recession. We believe this speaks to our robust and repeatable macro process.

Therefore, we continue to stress the importance of tactical management. In today’s low-return environment, advisors are challenged to rethink foundational elements of investor portfolios – which means seeking out strategies that bolster the “core” going forward.

This month, we made minor changes to our risk bucket, moving more beta equity exposure into our alternative real asset fund, as a hedge to potential correlation risk.

Recent Portfolio Changes

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