As we close the books on 2023, we remain struck by the unusual performance disparity within the S&P 500. Despite many good reasons for investor apprehension, a handful of high-growth technology companies leapt higher, single-handedly boosting the entire index. Looking at the Strategas Research chart to the left provides a clear explanation. The chart illustrates the S&P 500 performance over the year, highlighting the two points where economic concerns prompted the U.S. Treasury to sharply increase liquidity. Increased liquidity favors companies with high future growth expectations much more than the steady performers. As a result, the size-weighted S&P 500, which is heavily tech-weighted, returned 26.3%. The equal-weighted S&P 500 returned just 13.7%.
Investors are starting 2024 with optimism. The Federal Reserve has signalled that it is satisfied with its work to slow inflation and is done raising short-term rates. The expectation that rate cuts are on the horizon boosted both stocks and bonds in the fourth quarter, to the point where the bond market is pricing in six rate cuts in 2024 despite the Federal Reserve’s Dot Plot indication of just three. Valuations on stocks, particularly the technology stocks noted, are also high.
We anticipate a few ‘reality checks’, particularly in the first half of the year. Vulnerabilities derived from high stock valuations, record levels of government debt, rising credit/default issues, and the possiblity of a second wave of inflation bring headline risks. Inflation has come down significantly from its recent highs, but wage inflation, long-term costs of onshoring manufacturing, and higher shipping costs will have an impact. Many container ships are being re-routed to avoid the Red Sea and Suez Canal, leading to long delays, and insurance rates for shipping will reflect the increased risk of geopolitical turmoil. These are very recent developments that could impact inflation expectations and the Federal Reserve’s plans.