Monthly Outlook: December 2023
The Santa Claus Rally came early this year with nearly every market surging higher in November. Just last month, our Outlook title was “What’s Up? Not Much.” One month later, we’d have to answer, “Everything!” US Growth & Value, INTL, Emerging (except China), Bonds – they’re all trending higher again. Even the Israeli stock market turned back up, despite the on-going conflict, and is higher than it was pre-war.
So, why the surge? It seems investors are increasingly confident that the Fed and other central bankers have completed their interest rate hikes and monetary tightening. The idea is that lower interest rates in 2024 will support higher financial asset prices. And that’s true, mathematically.
After the COVID pandemic smashed the global economy in early 2020, global central bankers unleashed massive stimulus in late 2020 and all of 2021. That (and vaccines) stabilized the economy and markets. In fact, the stimulus may have gone too far and surely contributed to the resulting inflation that we’ve all seen, especially for services.
So, in 2022, the Fed reversed course and raised interest rates from 0% to 5.5% to stifle inflation and slow the economy. And it worked! Inflation (CPI) has come down from 9.5% to 3.2% and keeps falling. But the economy is slowing as evidenced by rising unemployment, softer retail sales, steepening yield curves, and so on. This is the situation that we’re in today: peak rates are behind us and the economy still appears to be strong but is weakening. We’re in a sweet spot, for now.
Can the Fed Manage the Pivot?
Falling interest rates support higher bond prices as well as other financial asset prices. It’s how the math works when discounting future cash flows. That’s the good news that the stock market appears to be focusing on today. But why are interest rates falling? They’re falling because the economy is slowing, which would lead to softer corporate earnings, and that is not good for stock prices. Can the Fed manage to slow the economy just enough to contain inflation but not tip us into a recession? This is the idealistic “soft landing” scenario that you hear about. In theory, they can achieve a soft landing, but their past 50-year historical record is not good. To be fair to the Fed, it’s a nearly impossible task given the 12- to 24-month lag in monetary policy impact combined with fiscal policy and other issues that are outside their control.
Investors will be watching closely for any signs of further economic deterioration, which could trigger a downgrade to earnings forecasts and, in turn, lower stock prices. We should expect the next few months to bring us mixed reports about the economy, some good, some bad. We might hear that Christmas sales are good, travel is strong, and every restaurant is full. But we might also hear reports about commodity prices softening, production slowing, and employee downsizing. This push-pull mix of news will likely add to some volatility in global prices.
Buy What’s Going Up; Sell What’s Going Down
We believe that stock and bond prices reflect all available news and collective views at any time. Do we have opinions and guesses about what’s coming in 2024? Of course! At a minimum, it helps us to be ready for various possibilities. But the key to our iFolios investment strategy is that we ignore guesses. It’s all in the price! We trade based on the price trend of each market that we’re interested in. When any market crosses above its price trendline, that’s our buy signal. We don’t debate whether it makes sense or is likely to continue. We make money during uptrends and so we invest. Conversely, any market that trades below its price trendline is sold and we move it to protection mode.
Today, as we start the last month of 2023, we’re 100% invested because every market that we invest in is trending higher. It’s great. We’ll stay invested as long as the price uptrends persist. That could be one month or one year, we don’t know. There’s a lot that we don’t know and can’t know. But we do know that the market will tell us what to do and how to invest using price trends. When they change, we’ll change. Happy holidays to all and enjoy this time of year with family and friends.