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December 2023 Monthly Market Update

The end of the year always seems to be when pundits and forecasters come out with a bevy of predictions. We’ll highlight the positives and negatives for markets in the year ahead, but first, let’s have a look at the past year. Coming into 2023, markets faced a general pessimism. Reuters polls of economists put the probability of recession in 2023 at about 60%. Inflation was proving persistent, eroding consumer purchasing power. Energy prices were elevated, with some parts of the world facing energy shortages. The Federal Reserve was clear more interest rate hikes were on the way. As the year progressed three banks with over half a trillion dollars in total assets failed and high geopolitical tensions only worsened with fresh conflict in the Middle East. Despite this, financial markets had a banner year in 2023, capped by a booming fourth quarter.  The S&P 500 returned 26% in 2023 and the Dow 16%. Fixed income markets also bounced following a terrible 2022, with the U.S. Aggregate Bond index up 5.5%. The economy defied recession expectations and inflation improved dramatically over the year. Pessimistic times can create great opportunities for long-term investors.

Turning to 2024 there will be several key themes to watch. Inflation hasbeen falling rapidly, with the consumer price index up 3.1% on an annualized basis in the last six months and the core personal consumption price index up 1.9%. The short-term federal funds target rate is currently 5.25%-5.50%, well above the underlying rate of inflation. Should inflation rates hold or continue to fall, 2024 is likely to have multiple rate cuts in store. Lower interest rates could provide a tailwind to financial assets. Interest rate cuts could also help stimulate the economy. Current interest rates give the Federal Reserve more flexibility than they’ve had in the last 15 years. Fiscal policy has been very stimulative to the economy in recent years. Very large budget deficits, exceeding 4-5% of GDP, have typically only occurred in times of high unemployment or war. In 2022 and 2023 deficits exceeded 5% and 6%, respectively. 2024 may prove no different, but budgetary restraint may become a bigger topic to watch going into the election cycle. Corporate earnings expectations are high for 2024 with analysts expecting double-digit earnings growth for the S&P 500. An increased focus on profitability in recent quarters, along with moderating inflation, is expected to lift corporate profit margins. Consumers will see a boost in disposable income in January as the IRS raises tax brackets 5.4% to adjust for inflation. Slowing inflation can help sustain the growth in real (after-inflation) incomes. Consumer balance sheets will warrant close watch with delinquency rates of consumer loans on the rise. Valuations for the market are higher today than a year ago, due in part to the big run in the indices’ largest stocks. While some sectors are back to the historically elevated valuations of 2021, others are at normal levels.

As always, we will closely monitor evolving market dynamics in the year ahead. We have a healthy respect for how unpredictable the world is – which is exactly what a diversified portfolio of high-quality, shareholder-friendly stocks is built for.

-Jared J. Ruxer, CFA, MS

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