U.S. economic activity remained strong in 2023 as the economy withstood the initial shock associated with the rapid pace of monetary tightening. The final reading on U.S. GDP showed that the economy grew by 4.9% (annualized) in the third quarter, a downgrade of 0.3 percentage points from the second estimate in November.
A surprise increase in November retail sales dispelled lingering pessimism about the economy and reinforced growing sentiment that the U.S. could beat inflation without paying the price in significantly weaker growth. Also in November, the unemployment rate fell, inflation cooled, and the Federal Reserve pivoted away from raising interest rates while considering when to cut them. With inflation still too high and the FOMC committed to bringing it down to 2%, it did not fully close the door to additional policy tightening. While further tightening has remained possible, it has grown less probable.
The resilient labor market that supported an unexpectedly strong U.S. economy last year has shown signs of cooling. Continuing jobless claims rose to 1.93 million in mid-November, the highest level since late 2021 and an added sign that the labor market has been cooling.
On the production side, the services sector of the economy managed to expand modestly. This lackluster growth suggests that activity in the sector has slowed, which should help to keep a lid on service sector inflation and should help wage inflation cool further.
Overall, consumer spending remained buoyant over the holiday period, but the momentum may be fading, with consumption growth likely to slow in the coming quarter.
The pullback in mortgage rates appeared to have provided some relief for housing, with mortgage purchase applications ticking higher for more than a month. But, the impact of interest rates has a lag, so this could take some time to be manifested in sales activity. To that end, pending home sales fell to an all-time low in November, indicating that things would get worse before they get better.
Inflation eased considerably in 2023 amid tight monetary policy, standing at 3.1% in November. Outright declines in energy prices have put the biggest dent in inflation over the past year, but price growth has slowed for other major categories, including food, core goods, housing, and core services.
Smoother functioning supply chains, and restrained consumer spending have helped slow price increases for goods. Lower goods prices could ease inflation’s path down towards the Fed’s target. Prices for services have cooled though demand has persisted. Shelter costs are one factor that could help further slow inflation in coming months.
Prospects for economic growth in the U.S. are shifting as the economy progresses into 2024. Real GDP growth will likely slow materially heading into 2024 and a modest contraction in economic activity could well take hold by the second quarter. Economic weakness, which will help push inflation back toward the Fed's target of 2% on a sustained basis, should then induce the FOMC to begin easing monetary policy. Even as the FOMC eases policy later this year, interest rates will likely settle at a higher level than what prevailed ahead of the pandemic.
The U.S. dollar and U.S. dollar-based assets will remain a safe place to be for now. The trend of U.S. dollar strength will likely slow and turn to U.S. dollar weakness later in 2024.
The global economy is likely to experience a period of below-trend growth in 2024, with the global economy expanding at just about 2.5%. Growth prospects should be restrained by a U.S. economy potentially experiencing a mild recession in mid-2024, recessions in the Eurozone and U.K., as well as a Chinese economy decelerating amid structural challenges. Some economies could outperform and grow at above-trend rates. Asia, in particular India, should be the region and economy that stands out from a growth perspective.
The outlook for stock returns in the near term, despite the strong returns of 2023, remains uncertain given the slowly deteriorating dynamics of the economy, still relatively high interest rates, a Federal Reserve resolute in its battle to fight inflation, and what are historically expensive stock prices. This is especially true for the handful of market leading growth stocks referred to as the “Magnificent Seven” (i.e., Alphabet, Amazon, Apple, Meta, Microsoft, Tesla, and NVIDIA). This mix of headwinds will likely continue to weigh on corporate profit growth for some time. The equity markets however seem to have priced in a near certain soft economic landing, with lower interest rates, and reaccelerating corporate profit growth for 2024.
The outlook for bonds continues to look pretty bright, mainly due to the likelihood that the Fed is closer to the end of its rate hiking cycle, inflation is coming down, and now bonds offer a respectable coupon rate after years of ultra-low interest rates. Bond coupon rates finally provide real competition for investment dollars versus stocks for more conservative income-oriented investors, given the more expensive investment profile of stocks in general.
There continue to be downside risks to the capital markets, which should be kept in mind as 2024 unfolds. Those risks include gridlock in a hyper partisan Congress over important issues like the federal budget, immigration, and funding conflicts in Europe and the Middle East. The latter is already impacting trade as ships with cargo are forced to take longer more expensive routes around the southern tip of Africa to avoid blockades and conflicts near the Suez Canal. And we should not forget the races for the Presidency and Congressional seats that are now heating up.
Historically the Federal Reserve tends to avoid changing their monetary policy in any meaningful way as elections approach so as not to appear partisan. And finally, if forces that could negatively impact inflation (like the price of oil, or commodities, or increased demand for goods and services) slow the decline of inflation or even reverse it, it would be unlikely the Fed would cut rates as much as markets are expecting. Any combination of the above risks could disappoint investors.
The longer-term view of markets suggests that the tailwinds stock and bond investors enjoyed in recent years, including massive fiscal stimulus and declining and ultra-low interest rates, will not resurface soon to smooth over inevitable hard economic times. Securities’ values are more likely to be driven by the organic operational successes of businesses rather than help from the federal government. These conditions should favor astute stock and bond selection.
If you have any questions, please do not hesitate to contact your Counselor or you can reach us at info@gwwade.com.
Based on the S&P 500 trailing twelve-month Price-to-Earnings ratio, our gauge of U.S. equity valuation registers a December reading at the 20th percentile (data series from January 1957 to December 2023).
Based on the Federal Reserve Bank of Philadelphia’s U.S. Coincident Index, our gauge of U.S. economic activity in November registers at the 46th percentile (data series from April 1979 to November 2023).
The equity valuation and economic activity gauges have been reviewed by GW & Wade and are consistent with the firm’s near-term outlook.
This economic and market commentary was prepared by Capital Market Consultants, Inc. (CMC), an independent investment management consulting firm, and has been approved for distribution by GW & Wade, LLC. Data used to prepare this report by CMC are derived from a variety of sources believed to be reliable including well-established information and data software providers and governmental sources. CMC is not affiliated with any of these sources.
The information provided above is general in nature and is not intended to represent specific investment or professional advice. No client or prospective client should assume that the above information serves as the receipt of, or a substitute for, personalized individual advice from GW & Wade, LLC, which can only be provided through a formal advisory relationship.
This outlook contains forward-looking statements, predictions, and forecasts (“forward-looking statements”) concerning our beliefs and opinions in respect of the future. Forward-looking statements necessarily involve risks and uncertainties, and undue reliance should not be placed on them. There can be no assurance that forward-looking statements will prove to be accurate, and actual results and future events could differ materially from those anticipated in such statements.
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About the indices presented above:
The charts are for illustrative purposes and are not indicative of any actual investment. Investments cannot be made directly in an index. The index returns represented in the article above are provided gross of fees. Advisory fees, compounded over a period of years, will reduce the total value of a client’s portfolio. For most clients, GW & Wade assesses advisory fees on a quarterly basis in arrears and deducts the fees directly from a client’s account. To the extent that such fees are deducted on a quarterly basis, the compounding effect will increase the impact of such fees by an amount related to the account’s performance.
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