Question:  

Now that the debt ceiling deal has been resolved, what are our thoughts on the market for the remainder of the year?

Answer: 

In the short term, the passage of the debt ceiling bill, along with a better-than-expected employment report for May, caused markets to find positive direction on the first Friday of June. Longer term, there will be limited effects on economic activity from the debt ceiling deal over the next two years; reductions in government expenditures should help reduce economic and financial risks of default for at least the next two and one-half years, which is no small feat. 

Mechanisms within the bill will push Washington politicians to follow through on budget appropriations or risk further damage. However, these battles won’t have the potentially disastrous consequences that a debt default would’ve had for the U.S. and the global economy. In an ideal world, the hope is that we use this time wisely to find a long-term solution to our debt issues. 

For the moment, common sense has prevailed. Financial markets can now move back to focusing on fundamentals such as the job market, earnings, inflation, economic growth, and the Fed. The market has been on a recession watch for more than a year now. The economy has held up better than expected despite surging inflation, a deeply inverted yield curve, and the most aggressive interest rate tightening cycle in nearly four decades. Even the bank problems weren't enough to tip the economy into a recession. 

Tighter monetary policy has a lag factor. This means that we could see economic growth slow even further as we move into the second half of the year. There are two areas of focus at this inflection point with expectations of a mild recession in the back half of 2023. 

1. In May, U.S. employers added 339,000 jobs and the unemployment rate rose from a historically low level of 3.4% to 3.7%. Despite steady layoff announcements, the labor market’s strength defies gravity. Although job growth has slowed from the peak in 2022 of approximately $400,000 jobs per month, it is still elevated with 1.8 jobs available for every job seeker. Economists expect the downward trend in job growth to continue and turn negative in the second half of 2023. 

2. The consumer spending “sugar high” boosted by pent-up demand, higher savings rates during the pandemic, fiscal support from the government, and a pause on student loan repayments is beginning to fade. Consumers are turning to credit to maintain spending levels. Tighter bank lending and higher interest rates could limit the ability to accumulate more debt. Consumers are still spending but becoming more cautious. Shopping for deals and discounts while focusing on only essential items is more common. A key component to the debt ceiling deal is the provision to have as many as forty-five million Americans begin paying back nearly $1.6 million in student loan debt. The pause in student loan repayments is set to end in August. This additional headwind could slow spending even further. Consumers are depleting the excess savings built up since the start of the pandemic. The market’s attention will return to fundamentals with many investors remaining cautiously optimistic.

With the passage of the debt ceiling deal there is now less uncertainty in the air which is a positive for the stock market. We’ve become accustomed to these last-minute deals from Washington, but there was concern and worry over the indecision prior to the deal being signed. 

As the drama fades, focus will turn to items such as the pace of inflation, which has already decelerated from 6.4% year-over-year (YoY) at the beginning of 2023 to 5.0% YoY currently. Cooler inflation should help a resilient economy steer its way through the remainder of the year as we turn back to focusing on fundamentals such as jobs, wages, inflation, and housing costs. Stay focused and plan accordingly.