Our Q4 2023 Investment Letter & We Purchased a New Tech Stock

Our Quarterly Letter

The Federal Reserve has been engaged in an 18-month battle against inflation. For decades, economic theory and history have both suggested that to bring inflation back in line, the central bank must slow the economy to the point of boosting the unemployment rate—thereby putting millions of Americans out of work and facing the hardships that come with it.

However, recent events have unexpectedly challenged this long-held assumption. Despite a series of interest rate hikes by the central bank, the US unemployment rate remains at a historically low level of 3.8%, only slightly higher than when the Fed first started raising rates. This has caused economists both within the Fed and on Wall Street to revise their forecasts and question the traditional relationship between inflation and the labor market.

If the current trend holds, then the Fed might be able to achieve the desired soft-landing—a situation where prices are stable, and unemployment is at manageable levels. This would be a major breakthrough if it proves to be true, as it would demonstrate that labor-market weakness is not necessarily the only path to restoring price stability.

Friday marked the end of a turbulent three-month stretch for stocks and bonds as investors comprehended the possibility that inflationary pressures may be abating, though interest rates will most likely stay elevated for a prolonged period.

The benchmark S&P 500 logged a 3.7% decline since the end of June, registering its first negative quarter this year. The tech-driven Nasdaq Composite was down 4.1% in the quarter – the biggest quarterly decline since Q2 of 2022.

Data from the US Department of Commerce showed that core personal consumption expenditures, a crucial inflation measure, diminished from 4.3% in July to 3.9% in August, the lowest level in nearly two years. In tandem, the yield on 10-year US Treasury bonds fell to 4.58% on Friday, after reaching its highest rate since 2007 earlier in the week and having its gravest monthly surge in 12 months. Two-year Treasury yields, which are associated with interest rates expectations, edged higher after the inflation data, but still ended the day lower at 5.05%. These yields move opposite to prices.

Despite this gloomy environment, there is still optimism for the stock market. Markets usually experience a rebound after a period of continuous decline. The data supports this, with the S&P 500 achieving higher levels in the period three months after experiencing 15 days of lower intraday lows. The S&P 500 also found support around 4300 and the 200-day moving average near 4200.

Additionally, the current economic concerns, such as the “hawkish pause” from the Federal Reserve and a looming federal government shutdown, create a “wall of worry” that will make it easier for stocks to climb. Finally, stocks are moving from a seasonally weak time of the year to a stretch that’s usually among the best, culminating in a “Santa Claus rally” in December.

Though the outlook for the market is still cloudy, there are reasons for optimism as we move into the later months of the year. We believe the path of least resistance for the markets is upwards and equities could get another 10% by the end of 2024.

Week in Review

Last month, we sold our position in Gartner and were looking for a reasonably valued technology stock as a replacement. We purchased Skyworks for our equity clients because it is one of the leading suppliers of semiconductors for end customers in the in the cell phone and data connectivity markets. The company is well-positioned to benefit from strong demand for its various products from several significant end customers, including Apple, Samsung, Google, and Chinese OEMs. Apple represents close to 50% of revenue and we believe concerns around demand for handsets are overblown creating an attractive entry point for investors in our equity portfolio.

The company also has a PEG ratio of 1.46 and a NTM PE of 11x, which give it an attractive investment valuation. Skyworks has also demonstrated robust cash generation and capital return, with free cash flow coming in at 26% of revenue in FY3Q, and management reiterating its commitment toward capital return by announcing a 10% increase in its dividend to $0.68/share.

In addition to its current 2.8% dividend, we anticipate that Skyworks will resume buybacks in early 2024. All of these factors, we believe, make Skyworks an attractive investment opportunity for our clients.

Economics & Earnings Calendar

It is a light week of earnings before earnings season kicks off in full force with banks next week.

This week, investors will be paying close attention to the latest data on the U.S. labor market, as it will have implications for consumer spending and Federal Reserve policy. On Tuesday, the Bureau of Labor Statistics will release its Job Openings and Labor Turnover Survey for August, with an anticipated total of 8.8 million job openings. On Friday, the BLS will release the September jobs report, which economists predict will show an increase of 155,000 nonfarm payrolls and a decrease in the unemployment rate to 3.7% from 3.8%.

The Institute for Supply Management will release its Manufacturing Purchasing Managers’ Index for September on Monday, followed by the Services equivalent on Wednesday. Several consumer staple companies will also announce their quarterly earnings this week, including McCormick, Conagra Brands, Constellation Brands, Lamb Weston Holdings, and Levi Strauss.

Chart of the Week: The market for milk alternatives.

Disclaimer: The author of this blog is a financial advisor but may not be the right advisor for you. In fact, the author may not even be the right advisor for themselves. Please consult a qualified professional before making any financial decisions based on the content of this blog. And remember, just because the author has a fancy title and a briefcase full of spreadsheets, doesn't mean they know what they're doing.