Inflation measures continue to trend towards the Fed’s 2% target
Stocks capped off a solid year with robust gains in the month of December
Gains were concentrated in Technology, Consumer Discretionary and Communications
Bond yields continued to fall as investors anticipate future rate cuts by the Fed
Consumers and Inflation
Similar to the past few months, the November CPI report provided further evidence that inflation is trending back to target. Headline CPI rose 0.1% m/m and 3.1% y/y in November, lower for the third consecutive month, and down considerably from a year ago when inflation was still running north of 7%. In the details, a sharp decline in energy prices helped alleviate pressure in the headline figure. Core inflation was supported by gains in auto insurance and shelter prices, but forward-looking rent and auto prices suggest a trend lower ahead.
Elsewhere, the PCE price index, which is the Federal Reserve’s preferred measure, showed further progress on inflation. Headline PCE fell by 0.1% m/m and rose 2.6% y/y, while the core measure gained 0.1% m/m and 3.2% y/y. While the CPI report was slightly stronger than expected, recent data confirms that inflation is moving in the right direction and may reach the Fed’s target by mid-2024 IF the current trends continue.
Stocks and Bonds
Stocks rallied into the end of the year. The Dow Jones Industrial Average rose 4.9%, the S&P 500 advanced 4.5%, and the NASDAQ jumped 5.6%. Small- and mid-caps had a particularly standout month, as the Russell 2000 surged 12.2% and the S&P 400 Mid Cap index rose 8.7% in December. For the year, the Dow logged a 16.2% gain, the S&P 500 added 26.3%, and the NASDAQ blazed higher by 44.6%. Outside of the large cap arena the S&P 400 and Russell 2000 returned 16.4% and 16.9%, respectively. Foreign stocks posted a respectable 18.9% gain as measured by the MSCI EAFE. Emerging markets were the laggards, but still managed to post a double digit return of 10.3% for 2023.
All eleven sectors rose in December. Real Estate led the way with an 8.7% increase, followed by a 7.1% advance in Industrials and 6.1% in Consumer Discretionary. The best performing sectors for 2023 were Technology, Communication Services, and Consumer Discretionary, while three sectors recorded a down year: Energy, Consumer Staples, and Utilities.
Treasury yields fell further in December as investors digested favorable inflation data and Fed Chair Jerome Powell’s comments that indicated an apparent pivot towards rate cuts over the coming months. Longer-term instruments saw larger declines, as yields on the 20-year and 30-year fell by 52 and 51 basis points, respectively. The 5-year and 10-year both tumbled below 4%. The net effect was a positive performance from the bond market during the month, which placed all of the fixed income benchmarks we track in positive territory for the calendar year. In fact, bond returns for 2023 were as close to “normal” as we have experienced in recent times with three of the four benchmarks we track returning between 4.1% and 5.5% for the year. The Bloomberg US Credit index, which tracks the performance of corporate bonds, was the best performer last year with an 8.2% total return.
Long Term is the Only Term
Heading into 2024 the environment remains uncertain, but that is nothing new. At the end of 2022 many were predicting that the U.S. economy would almost certainly go into a recession in 2023. Instead, during the third quarter the economy experienced the fastest quarterly growth rate of any quarter since 2014, excluding the immediate reopening of the economy following COVID.
At the beginning of 2023 how many people expected Generative AI to capture the world’s attention? How about obesity drugs?
How about those “Magnificent Seven” stocks that are responsible for most of the S&P 500’s returns this year? Rewind the clock by twelve months and here is what the owners of those stocks were met with when they opened their year-end statements:
I doubt that there were very many who would have predicted the rip-roaring returns those same seven stocks would provide over the following 12 months, or that Nvidia would be the best performing stock in the S&P 500:
Of the 22 Wall Street strategists that published 2023 year-end targets for the S&P 500 at the end of 2022 only one of them was within 1% of where the market closed out the year, two others were within 10%, and the rest were off by 10% or more. In many cases, by MUCH more.
Some of the BIG questions for 2024:
- Will the fed cut rates?
- How will the elections impact the markets?
- Will unemployment remain historically low?
- Will inflation continue to gradually drift downward, or will it re-accelerate as it did in the 1970s?
- Will the Fed engineer a soft landing?
- If we do have a recession, will it be of the mild variety or something more severe?
- Will the ongoing wars between Russia/Ukraine and Israel/Hamas be resolved or will hostilities escalate?
The reality is that we do not know the answers to any of these questions. But that is no reason to feel bad because no one knows.
There is actually a really good chance that the event that will have the most significant impact on the economy and the markets over the coming year isn’t even on anyone’s radar at this point.
The real takeaway is that it really does not matter what the stock market did this year or what it will do next year. What matters is what markets will do over the long run.
So, the next time you begin to worry about what might happen to the market if X, Y, or Z occurs, pull out this chart and remind yourself that there will be setbacks along the way, but despite the uncertainty, the stock market has proven to be incredibly resilient over the long term.
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