A confluence of factors continues to catalyze choppy, rangebound markets as investors strive to determine whether the Fed will be able to bring inflation under control prior to the U.S. economy falling into a recession. The convergence of the two lines inside the yellow oval on the far right of the 60+ year graph below speaks to this dilemma facing fundamental investors. On the one hand, the Fed’s main inflation metric surprised last month (white line, right axis) to the upside, while last week’s ISM Manufacturing Index (red line, left axis) screamed recession.
The first two trading days of February for the S&P 500 exhibited the same fear of missing out (FOMO) activity that played a significant role in fuelling the big move higher in stocks during January. Thereafter, slowing inflation (bullish), but not at a fast enough pace (bearish), provided fodder for both the bulls and the bears, keeping equities range-bound until mid-month when a stream of divergent data caused equities to ultimately succumb, giving back roughly half of their January gains.
January kicked off 2023 with equity markets continuing to exhibit the same ‘chop’ that characterized 2022. However, unlike many months last year, likely only dedicated short sellers or investors sitting mostly in cash complained at last month’s action. The price of stocks and bonds surged for three reasons.
For the second consecutive year, predicting the rate of inflation should prove to be the most important variable for investors to consider as we enter 2023. During the holiday season of 2021, the Fed’s median projection for the upper bound of the Fed Funds Rate for year-end 2022 was 1%, with the terminal rate forecast to ultimately reach 2.5%. Investors were happy with those estimates and stocks exited 2021 trading comfortably north of 20X forward earnings. The world then changed, causing most investors to suffer sizeable losses during 2022. In this note, we will review last year, discuss the performance of our funds and table our outlook for financial markets during 2023.