Crawford Economic & Market Environment (Slides)

The Firm's Outlook: Summary and Conclusion

The Economy

The U.S. economy is performing very well.
- Gross Domestic Product (GDP) continues to exceed expectations. The latest reported quarterly growth was 3.1%.
- Unemployment. While rising slowly, it remains low at 4.2%, near what is considered the natural rate of unemployment.
- Inflation came down sharply last year but is not yet at the 2% target. Progress toward the goal has slowed recently.
- Interest rates have declined among shorter maturities but longer issues have not cooperated. The Federal Reserve (Fed) has signaled a slower pace for federal funds reductions.
Consumption remains strong at near 70% of GDP and continues to power above-average growth.
The U.S. economy is the envy of the world as it continues to outperform its peers by most measures.
Recession fears have faded. The probability of a soft landing for the economy is now widely accepted.

Stocks & Bonds

Stocks enjoyed a second consecutive year of well above-average gains in 2024.
Corporate earnings and Price-to-Earnings ratio expansion have fueled the stock gains.
Concentration within the market among a few dominant companies remains an issue of concern.
Bond yields initially followed short-term rates lower, but shifting Fed expectations have driven bond yields higher.
Continuing large budget deficits may also be affecting bond prices. Many fear a bond market crisis at some point unless fiscal policy changes direction.
The Fed projects further interest rate reductions this year, although at a slower pace. Lower short-term rates imply lower long-term rates, eventually.

The U.S. Economy: GDP Powers Ahead

Real GDP growth, the broadest measure of economic health, continues to surprise to the upside.
It has long been assumed that the sustainable growth rate of the economy is 1.8%. The top chart illustrates how significantly GDP has outperformed this standard in recent years.
The lower chart indicates that GDP is now performing above its 25-year trend. Of special note is the trend since the trough of the Covid recession.
Question: Is it time to recognize a new paradigm of GDP growth, or is this merely a cyclical recovery from very depressed levels aided by massive fiscal and monetary stimulus? We shall see.

Strong GDP Growth: The Consumer is the Power

Credit the consumer as the main force behind above-average GDP growth.
Notice the strength of the consumer balance sheet:
- Assets far outweigh liabilities.
- Assets are concentrated in financial assets (stocks, bonds, time deposits) and homes. Stocks and homes have appreciated dramatically, creating a wealth effect that supports consumption.
Stock market gains have directly increased the number of millionaires, building further on the wealth effect.
Consumption, at 68% of GDP, is directly affected by these balance sheet and wealth effect factors.

Unemployment: Strong but Softening

The labor market is unusually healthy.
- 4.2% unemployment is near the natural rate of employment.
- Payroll growth continues but it has been irregularly slowing since 2021.
- Average hourly earnings are growing at a non-inflationary rate but providing consumers with spending power.

A composite review of the charts opposite is encouraging, but further slowing in payroll growth would be of concern.

Source: Federal Reserve Bank of St. Louis

All Employees, Total Nonfarm, Change, Thousands of Persons; Unemployment Rate, Percent (Data through 11/30/2024); Nonfarm Private Payroll Employment for Manufacturing, Change, Persons (Data through 10/31/2024); Average Hourly Earnings of All Employees, Total Private, Percent Change from Year Ago (Data through 11/30/2024); Number Unemployed for 27 Weeks & over, Thousands of Persons (Data through 11/30/2024) - Monthly, Seasonally Adjusted

Inflation: Still Improving But More Slowly

A review of a range of inflation measures would suggest a current inflation rate of 2.5% to 3%. This is a dramatic improvement since the peak of 2022.
The last mile in achieving the 2% target is proving to be the most difficult. Both headline and core CPI have stalled in recent months.
Further progress hinges heavily on shelter and services. Progress here is slow, with these levels significantly higher than broad measures of inflation. It is characteristic for shelter to be a lagging indicator.
The Fed remains adamant that its goal is 2% inflation, a posture that resists calls to raise the target to 2.5% or 3%.
Inflation is enemy number one for all participants in the economy. Achieving 2% would be a major victory for all.

The Fed Says: Not so Fast

In December, the Fed increased its growth and inflation forecast for 2025 and reduced the number of expected federal funds reductions from 4 to 2.
The Fed believes its interest rate cutting program is still in place, just paused or delayed.
Importantly, the longer run projection for federal funds, a proxy for the neutral rate of interest, was raised to 3%, up significantly from 2.5% one year ago. This suggests a higher floor for both short-term and long-term interest rates going forward.

The Economy: Two Warning Signs

A soft landing for the economy is now expected by the Fed and the investment community.
These two charts pose a warning that the possibility of a recession is not yet dead.
The unemployment rate is now 4.2%. The Fed expects it to end 2025 at virtually the same level. If it does so, it will defy history.
When unemployment starts rising, it usually continues rising. Staying steady for a longer period is not characteristic.
Inverted yield curves have been a reliable predictor of recession. But, the recession always comes after the inversion turns positive, as it has recently.
Investors and economists may be well served by keeping these charts in mind.

Long-Term Bond Yields: A Wild Ride in 2024

2024 was a volatile year for long-term interest rates. From a beginning yield of 3.8% on the 10-year treasury, it ended at roughly 4.50%. However, during the year there were multiple swings in yield, both up and down.
The path of the 10-year treasury yield, a proxy for long-term interest rates, should be down if 2% inflation is achieved and the Fed is able to eventually reduce federal funds to 3%.

The Stock Market: It Has Been Very Good, But...

Price-to-Earnings ratios are approaching all-time highs. This has been very good for investors.
Not such good news is that valuations are an important element in future returns. The achievement of above-average returns can be a harbinger of less than average returns in the future.
In addition to valuation expansion, the achievement of above-average returns has been due to strong fundamentals including above-trend economic growth and corporate earnings.

The Stock Market: More on Valuations

Another sign of elevated stock valuations is the measure of total stock market capitalization to GDP.
This measure is also approaching an all time high.
The chart below illustrates why capitalization as a percentage of GDP has increased dramatically.
Earnings growth by corporate America has grown much faster than GDP. These earnings have enjoyed valuation increases, thus powering stocks higher and explaining why this measure looks expensive.
The challenge will be for corporate earnings to continue to expand at a rapid pace while valuations at least maintain current levels.

The Stock Market: Good Fundamental Support

We compare the long-term growth rates for the stock market, corporate profits, and personal income.
Corporate profits have expanded at a healthy pace and these earnings have increased in value as Price-to-Earnings ratios have expanded.
The difference in growth rates may explain to a degree increases in income and wealth inequality. Wealth continues to flow to the corporate and stockholder sectors.
We note the rise in money market funds as a percentage of total financial assets. This resource may move into stocks and bonds at some point, supporting future gains.
The valuation picture for stocks is complex. Valuations are high, but economic and corporate success may justify higher valuations.

Presidential Elections in Perspective

Worried about a change in presidential leadership and the stock market? This chart suggests otherwise.
All of the presidents shown enjoyed rising stock markets during their terms, except George Bush. Unfortunately, he served during 9/11 and the Great Financial Crisis.
This chart says more about the underlying growth in the economy and the ability of corporate America to leverage that growth into earnings than it does about any presidential action to influence the economy and stock prices.
We believe the future remains bright for the U.S. economy and the stock market. The best way to ride this upward trend is with high-quality stocks.

Disclosure statement

Crawford Investment Counsel (“Crawford”) is an independent investment adviser registered under the Investment Advisers Act of 1940, as amended. Registration does not imply a certain level of skill or training. More information about Crawford, including our investment strategies, fees, and objectives, can be found in our Form ADV Part 2and/or Form CRS, which is available upon request.

This material is distributed for informational purposes only. The statements contained herein reflect opinions, estimates and projections of Crawford as of the date hereof, and are subject to change without notice. This material is not financial advice or an offer to sell any product.

Forecasts, estimates, and certain information contained in this commentary are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Any projections herein are provided by Crawford as an indicator of the direction Crawford’s professional staff believes the markets will move, but Crawford makes no representation such projections will come to pass. Crawford makes every effort to ensure the contents have been compiled or derived from sources believed reliable, and contain information and opinions that are accurate and complete; however, Crawford makes no representation or warranty, express or implied, in respect thereof; takes no responsibility for any errors that may be contained herein or omissions; and accepts no liability whatsoever for any loss arising from any use of or reliance on this report or its contents. Crawford reserves the right to modify its current investment strategies and techniques based on changing market dynamics or individual portfolio needs.

Forward-looking statements cannot be guaranteed. This document may contain certain information that constitutes “forward-looking statements” which can be identified by the use of forward-looking terminology such as “may,” “expect,” “will,” “hope,” “forecast,” “intend,” “target,” “believe,” and/or comparable terminology. No assurance, representation, or warranty is made by any person that any of Crawford’s assumptions, expectations, objectives, and/or goals will be achieved. Nothing contained in this document may be relied upon as a guarantee, promise, assurance, or representation as to the future.

Economic and Market Environment

First Quarter 2025