Stock indices climbed in May, with the S&P 500 and Dow gaining 4.8% and 2.3% respectively. U.S. Treasury yields ended the month relatively unchanged regardless of maturity. For the last two years, the Federal Reserve Bank has been reducing its holdings of U.S. Treasuries and Mortgage-Backed Securities (MBS) by limiting the reinvestment of maturities and principal payments. This policy is often referred to as balance sheet “runoff” or quantitative tightening and is carried out in an attempt to slow inflation. The Fed’s Treasury and MBS holdings peaked at over $8 trillion in 2022, more than doubling since the start of the pandemic, as the chart below shows. During the pandemic, the Fed bought Treasuries and MBS to stimulate the economy via lower interest rates and more liquidity. On May 1st, Fed Chairman Jerome Powell announced that the Fed would slow the pace of monthly runoff beginning in June, from a pace of $60 billion Treasuries and $35 billion MBS to $25 billion Treasuries and $35 billion in MBS. The slower runoff came as welcome news to markets, with stocks rallying following the announcement.
AI excitement continued in May, with AI-chip designer Nvidia reporting earnings. Nvidia’s data center revenues climbed 427% year-over-year to $22.6 billion in the company’s first fiscal quarter, spurred by massive investment in the space from venture capital and startups to the largest tech companies. According to Sequoia Capital, a Venture Capital firm, AI companies spent $50 billion on Nvidia’s AI chips in 2023 and made about $3 billion in revenue from AI. The current AI investment boom shows no signs of abating, as companies spend heavily in anticipation of future end customer demand. Nonetheless, the gap between investment and revenue will need to close over time. Companies heavily investing in AI infrastructure like chips and data centers need to show significant revenue growth from AI to sustain investment in the space. Looking ahead, expect investors to focus more and more on how companies are monetizing AI via real-world products and services customers are willing to pay up for.
-Jared J. Ruxer, CFA, MS