Quarterly Performance Update

U.S. Stocks Delivered Another Solid Quarterly Gain

While the second quarter began on shaky ground for U.S. stocks, market fears faded, and the S&P 500^® Index returned 4.28% for the three months. This lifted the index’s year-to-date return to 15.29%.

Higher-than-expected inflation data weighed on investor sentiment and rate-cut hopes in April, sending stock (and bond) returns tumbling. But those worries gradually eased amid better inflation readings in May and June.

Persistent inflation led the Federal Reserve (Fed) to hold rates steady in the quarter and revise its late-2023 outlook for three rate cuts in 2024. Cautious policymakers indicated they won’t cut rates until they’re confident core inflation is moving toward 2%. In June, amid some softening economic data, they signaled one rate cut is likely this year, which helped restore some investor optimism.

While U.S. economic data generally displayed resiliency, some slowdown signs emerged:

• The economy expanded at an annualized 1.4% in the first quarter, a 2-percentage-point drop from the fourth quarter.

• The manufacturing sector tumbled into contraction territory in April and continued declining through June.

• Unemployment rose to 4.1% in June, the highest level since November 2021, and wage growth slowed.

• Month-to-month retail sales inched back into slightly positive territory in May after declining in April.

• Consumer confidence dropped for the third straight month in June, falling to its lowest level since November.

U.S. stocks also received a boost from strong earnings and a continued rally in information technology, the quarter’s top performer in the S&P 500 Index. Fueled by ongoing artificial intelligence hype, technology stocks gained nearly 14%, followed by the communication services sector at 9% and utilities at 5%. Meanwhile, materials was the weakest of the index’s six declining sectors, dropping more than 4%.

Returns among broad style indices were mixed for the quarter, but growth stocks generally outperformed value stocks. Large-cap growth stocks (Russell 1000^® Growth Index) were top performers in the second quarter and year to date, logging returns of 8.33% and 20.70%, respectively. Small-cap value stocks (Russell 2000^® Value Index) were laggards, returning -3.64% and -0.85% for the quarter and six months, respectively.

Non-U.S. Stocks Offered Mixed Results

Non-U.S. developed markets stocks (MSCI World Ex-USA Index) returned -0.6% for the quarter, underperforming U.S. and emerging markets (EM) stocks. However, first-quarter performance kept the index positive for the year-to-date period, with a return of 4.96%.

European stocks advanced slightly in the quarter, weighed down by a late-quarter downturn in France. European parliamentary election results prompted the French president to order a snap election, which triggered sharp volatility and steep stock market losses in June.

Meanwhile, despite an uptick in above-target inflation, the European Central Bank in early June cut three key interest rates for the first time since 2016. Growth in the region remained sluggish, with the economy expanding 0.3% in the first quarter. Manufacturing contracted in June for the 24th-consecutive month, while the services sector slowed but continued to expand.

Boosted by an improving economic backdrop, UK stocks advanced and outperformed European equities. The nation’s manufacturing sector climbed back into expansion territory in May and remained there in June. The service sectors slowed in the quarter but continued to expand.

Inflation steadily moderated, dropping to the central bank’s 2% target in May. Nevertheless, the Bank of England (BoE) remained cautious and left its key lending rate at a 16-year high. Similar to the Fed, BoE officials want more confidence that inflation is under control before cutting rates.

Elsewhere, Japan’s stock market struggled and significantly underperformed the broader market. The country’s economy shrank in the first quarter, and in May, annual inflation accelerated to 2.8% from 2.5% in April.

EM stocks were top second-quarter performers, returning 5% (MSCI Emerging Markets Index). In China, the government’s efforts to support the troubled real estate sector lifted the nation’s stock market and thus the broad EM index. Additionally, Taiwan’s exposure to the rallying artificial intelligence industry provided additional heft to the EM index’s performance.

Most Global Bonds Posted Slight Gains

U.S. bonds, as measured by the Bloomberg U.S. Aggregate Bond Index, returned 0.07% for the quarter, as Treasury yields continued to climb. Index sectors were mixed, with Treasuries and Mortgage-Backed Securities (MBS) delivering fractional gains and investment-grade corporates declining slightly.

The headline Consumer Price Index (CPI) grew at an annualized pace of 3.3% in May, down from 3.5% in March. Annual core CPI slowed in May to 3.4%, compared with 3.8% in March. The annual core Personal Consumption Expenditures inflation rate, the Fed’s preferred gauge, slowed from 2.8% in March to 2.6% in May, still higher than the Fed’s 2% goal.

Against this slowly easing inflation backdrop, the Fed left its short-term interest rate target at 5.25% to 5.5%, where it has been since July 2023. In June, policymakers suggested they may make one rate cut by year-end — a significant change from the three rate cuts the Fed teased earlier. They also noted they still believe rates are sufficiently restrictive to eventually cool core inflation to their 2% target.

Economic and inflation data helped drive Treasury yields higher during the quarter. The yield on the 10-year Treasury note ended June at 4.40%, up 0.19% from March 31. The two-year Treasury yield climbed 0.14% to 4.77%, and the yield curve steepened but remained inverted.

Elsewhere, government bond yields in the UK and Europe also rose, and bond returns generally declined. However, the U.S. dollar continued to appreciate versus other currencies, and Bloomberg’s dollar-hedged global bond index returned 0.12% for the quarter.

EM bonds were mixed for the quarter, with dollar-denominated securities generally rising and local-currency bonds declining. EM corporate bonds advanced and broadly outperformed sovereign securities.