Experts at Schwab sent their customers areas to be concerned with in the economy in 2024.
Schwab sent out a report on 2024 with some areas to be concerned with next year. Here they are:
Commercial Real Estate is noted.
This is a no brainer. Commercial properties are sitting empty in big cities. This is not as bad as in China but it is a real problem for the depressed Biden/Obama economy.
According to the Pew Research Center, more than a third of U.S. workers who can work from home now do so full time. As a result, between the end of 2019 and the beginning of 2023, the office vacancy rates in New York and San Francisco alone increased 14.2% and 19.8%, respectively. By 2030, more than 300 million square feet of U.S. office space is expected to be obsolete.
On the financing side, nearly $900 billion in U.S. commercial property debt is set to mature this year and next. Property owners will almost certainly face higher rates, and those who can’t afford to refinance will be forced to inject millions of dollars in fresh capital, sell, or simply walk away. “This isn’t something that gets solved over the next couple of years,” says Kevin Gordon, senior investment strategist at Schwab.
High Yield Bonds
High Yield Bonds are in trouble as rates are higher and more and more investors will be shying away from them.
Although high-yield bonds have been one of the best-performing areas of fixed income,1 that strong performance came despite a rise in corporate defaults—a trend that may continue as high borrowing costs weigh on low-rated issuers.
Corporate earnings have faltered in the wake of the Fed’s aggressive interest-rate hikes. Companies in the S&P 500® Index posted year-over-year profit declines for two successive quarters starting in the fourth quarter of 2022—the technical definition of an earnings recession.2 Moreover, corporate pretax profits declined in four consecutive quarters through the second quarter of 2023, according to the Bureau of Economic Analysis.
“Prolonged earnings weakness will hurt the ability of high-yield issuers to find investors willing to refinance their debt,” says Collin Martin, CFA®, a director and fixed income strategist at the Schwab Center for Financial Research. “As it stands, those who issued high-yield debt two years ago are paying double in interest expense now—and it’s only going to get tougher for companies to withstand the increase in their borrowing costs.”
Small Cap Stocks
Unit labor costs—or how much a business pays its workers to produce one unit of output—increased at a rate of 6.3% in the first quarter, compared with just 3.3% in the prior period. That’s an acute issue for small businesses, for whom labor costs constitute some 70% of their spending.
In fact, small businesses repeatedly report that labor shortages are hampering their operations, with many struggling to offer adequate compensation. While the growing economy theoretically enables them to boost sales, there’s a limit to how much they can sell given their capacity constraints.
“The higher core costs that small businesses are incurring aren’t likely to go down as fast as the inflation that’s boosting their sales—and any downturn would likely see small companies’ revenues come under pressure even as their cost of goods sold remains elevated,” says Adam Lynch, a senior quantitative analyst at Schwab Equity Ratings.
Such headwinds are already apparent in the performance of small-cap indexes like the Russell 2000®, which gained about 12% through the first half of 2023, compared with an 18% rise in the broader S&P 500.
The failure of Silicon Valley Bank was only the beginning.
The failure of Silicon Valley Bank in March promptly sent regional bank stocks reeling. Although the KBW Nasdaq Regional Banking Index has since recouped some of its losses based on signs that the crisis was contained, the sector’s problems may not be over.
The core vulnerability stems from the impact of higher interest rates, which undercut the value of the banks’ outstanding fixed-rate bonds and other loans issued when rates were near zero. And despite their best efforts to trim their U.S. commercial real estate and construction exposure, regional banks are still the biggest lenders to the commercial real estate and construction markets. Indeed, a study of nearly 5,000 banks’ public regulatory data found that approximately a sixth have either a CRE or construction loan concentration in excess of 300% or 100%, respectively, of their total capital, exceeding regulatory thresholds.