Investors have been treated to a joyous holiday season this year with both stock and bond prices surging in recent weeks. Healthy market returns of over 15% for global stocks and 5% across fixed income investments have been a welcome development following a painful market correction in 2022. Of late, strong equity prices have taken their cue from the broader economy, as recent government data regarding the labor market and inflation have come in better than expected. On the jobs front, November non-farm payrolls increased by 199,000, resulting in a lower unemployment rate of 3.7%. While many economists were forecasting a recession and lower equity prices in 2023, the equity market has exceeded expectations, led by a narrow group of stocks nicknamed the “Magnificent 7” which accounted for 94% of the S&P 500 gains year-to-date.
In the real estate market, investors and potential home buyers have been confronted by a rise in mortgage rates, currently averaging 7.5% for new mortgages (a twenty year high). These steep borrowing costs have led to a reduction in both home sales and housing starts. Incredibly, weak real estate trends have not dampened prospects for the broader U.S. economy, with real GDP estimates for the fourth quarter recently revised upwards to 2.6% from 1.2% (on a quarter-to-quarter basis).
As the Federal Reserve bank reflects on their dual mandates of price stability and full employment, Chairman Powell and his Board of Governors would categorize 2023 as a success, noting the market’s resolve to withstand a regional banking crisis in the Spring, the ongoing war in the Middle East, as well as restrictive monetary policy in the form of high interest rates. On the inflation front, the Fed received encouraging data in November, with the core Consumer Price Index registering at 4%, not far above its inflation target of 2%.
While the U.S. economy has shown surprising resilience, business conditions in Europe and China have not been as healthy. Economic weakness overseas has been concentrated in the areas of manufacturing and trade, leading to negative GDP growth for export focused economies like Germany. China’s business challenges have been more of the self-inflicted variety, with their handling of COVID-19 and failed rebound from the pandemic a result of poor policy by government leaders. In a recent forecast from the International Monetary Fund (IMF), economists downgraded their predictions for global growth in 2024 to 2.9%, down from 3%.
Looking ahead to 2024 and beyond, there are exciting opportunities on the horizon for investors, including in the areas of Artificial Intelligence (AI) and cloud computing. While we are in the early stages of these innovations, many companies in the S&P 500 are becoming increasingly outspoken about their plans for cloud and AI, with analysts expecting up to $200 billion of related investments over the next year. A second area of investment interest can be found in the fixed income realm thanks to attractive bond rates. A renaissance of sorts, this higher interest rate regime creates new opportunities to earn worthwhile income yields on bond investments while potentially taking less risk. Consequently, bond investors are envisioning returns of 4-5% annually, versus the 2-3% gains that were common in the prior market cycle. Of course, while all this optimism is comforting, investors will still need to navigate various challenges including an upcoming election year, unpredictable geopolitical risks, and the ever-threatened economic recession, in order to prolong the bull market in both stocks and bonds that we have come to enjoy.
