In 'A Christmas Carol,' the Ghost of Christmas Yet to Come remarks: "You will have Christmas, Tiny Tim!" And, as we look back on 2023, financial markets replicated Tiny Tim’s fortune, bringing an early Christmas present in the form of a strong Santa rally.
Chairman of the Federal Reserve (the Fed), Jerome Powell, kicked off the festivities in mid-December, holding back from curbing the market's anticipation of multiple interest rate cuts in early 2024.
With that in mind, it appears central bankers are pivoting quickly towards rate cuts (Scrooge, eat your heart out).
Reflecting on our January 2023 message, where we emphasised the importance of being in the market to reap future rewards, our perspective was inherently long-term.
You can’t reasonably manage money on the basis that you know what’s going to happen in 12 months’ time. Consequently, no one – ourselves included – could have predicted the remarkable rally experienced by certain stock markets in 2023.
Notably, while the FTSE 100 saw a lacklustre return of less than 4%, the S&P surged by 24%, inching closer to its previous all-time high of 4,796 in January 2022.
Human ingenuity, embodied in the form of AI, took centre stage last year, with the emergence of the 'Magnificent 7' tag line in the US markets. These tech-based stocks – Apple, Amazon, Alphabet, NVIDIA, Meta, Microsoft, and Tesla – witnessed, on average, a collective increase of over 110% in 2023.
In fact, their earnings growth has resulted in their market cap (the total value of all the company's shares of stock) now making up over 30% of the entire S&P 500. Undoubtedly, these stocks played a crucial role in supporting the US market.
However, this could be a double-edged sword.
While positive numbers were reflected across our Plans in the year, there's a risk of ignoring to the potential challenges faced by the other 493 stocks in the S&P 500. If something were to happen to the ‘Magnificent 7’, the impact would be large (compared to if this growth was spread out amongst a wider range of the market).
Looking back at 2023
2023 posed challenges on various fronts. While financial markets fared better than in 2022, it's crucial to acknowledge the difficulties many faced. Those without inflation-matching pay increases continued to grapple with the impact of rising prices — particularly in the UK.
On a more global scale, the ongoing conflict in Ukraine and recent atrocities in the Middle East, have led to humanitarian crises on an unprecedented scale. In March, the US banking system faced turmoil with multiple bank failures; Silicon Valley Bank and Signature Bank collapsed in quick succession, causing a widespread decline in US regional bank stock prices.
The ripple effect reached Europe, with Credit Suisse being acquired by UBS, and First Republic Bank in the US failing in May.
Thanks to the Fed’s intervention – which saw them provide emergency loans to distressed banks and assure customers of deposit safety – broader financial problems were avoided, resulting in minimal disruption to global equity markets.
Government bonds experienced a rollercoaster year, marked by significant fluctuations. For instance, the yield (the return an investor expects to receive each year, over its lifetime) on the UK government 10-year bond – typically a safe haven in economic uncertainty – spiked to 4.7% over the summer — levels unseen since the 2008 global financial crisis.
Subsequently, yields dropped to under 3.7% in a matter of weeks, with similar dynamics observed in the US, too.[1]
As previously mentioned, AI’s impact was felt across the globe, led by ChatGPT and other generative products. The mere mention of AI in earnings reports became a catalyst for share prices going up, contributing significantly to the strength of the ‘Magnificent 7’ tech stocks.
Much like the dot-com bubble of the early 2000s, it does make you wonder whether this AI boom will become a decade-defining moment. Because, even though the ultimate impact of AI on our lives currently remains uncertain, its inevitable influence – for better or worse – is undeniable.
Outlook for 2024
If ‘resilience’ dominated 2023, then ‘caution and uncertainty’ should be kept in mind as we prepare for 2024. Numerous considerations loom, including the:
- Potential continuation of the stock market rally — and a
- Trajectory of inflation and interest rates.
- Turbulent geopolitical landscape capable of unsettling markets.
The concept of a 'soft landing' (an ideal scenario where inflation reduces without compromising substantial growth, avoiding a recession, and facilitating interest rate cuts) is assumed by many to be a done deal.
Is achieving such perfect cooling possible?
Well, it's what markets currently believe, serving as the main driving force behind December's Santa Claus rally.
It’s worth noting, however, that we don’t necessarily subscribe to this ‘soft landing’ narrative.
We’re not entirely convinced that previous interest rate hikes have been fully absorbed by the market; rather, the effects are lagged and will be felt further in 2024.
Consequently, as we start the new year, our investment outlook remains defensive, with Plans featuring lower equity exposure and a higher allocation to government bonds (which we think offer a superior risk-to-reward ratio).
While we’re keen to increase stock holdings in our customers' Plans, current valuations and the potential for earnings disappointments – stemming from a deteriorating economic outlook – make adding additional stocks a little precarious for our current stance.
Notably, in Europe, elevated interest rates and energy resiliency concerns pose threats to the region's growth prospects. Emerging markets, while fundamentally strong, are susceptible to similar setbacks in the event of a potential global slowdown.
China, despite its seemingly cheap equity market, raises concerns due to governance issues, geopolitical considerations, and challenges in the property market.
However, there are geographic areas where we are more confident.
In the UK, historically inexpensive large and mid-cap companies generate substantial offshore earnings, making them less susceptible to domestic issues.
Elsewhere, Japan's economic environment is showing ongoing signs of improvement. While 2024 may see the start of unwinding easy monetary policies (policies that increase the money supply, usually by lowering interest rates), this could result in the yen appreciating — a favourable outcome for Plans with exposure to yen-dominated stocks.
Lastly – and echoing Warren Buffet's wisdom that you should never bet against it – the U.S. remains a focal point for us. We not only stand firm, but if conditions allow, we anticipate increasing our Plans' weighting towards U.S. stocks throughout the year.
As mentioned last year, surprises often emerge from unexpected places at unexpected times. While acknowledging that "if the U.S. sneezes, the rest of the world catches a cold," the importance of diversification in such scenarios is crucial.
Going forward, our Plans maintain a defensive position, with sufficient diversification across different asset types. Something which, coupled with meticulous fund selection, sees us poised to make the most of 2024 — regardless of the market's direction.
Please remember the value of your investments can go down as well as up, and you could get back less than invested. Past performance is not a reliable indicator of future results.
Wealthify does not provide financial advice. Please seek financial advice if you are unsure about investing.
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