The major US and world stock indices had a volatile year in 2023, influenced by various factors such as the banking crisis, Federal Reserve Board policy, inflation, and geopolitical tensions. Here is a brief summary of their performance:

The capitalization weighted S&P 500 gained 24.2%, driven primarily by a handful of technology companies that came to be known as the “Magnificent Seven.”  The economic background, especially in the United States was supported by resilient consumer spending, an economy that avoided a recession, and steady corporate profits. Technology, communication services, and consumer discretionary stocks were the top-performing sectors, while utilities, healthcare, and consumer staples lagged. The Dow Jones Industrial Average rose 13.4%, reflecting the strength of the blue-chip companies. The technology index was boosted by the rebound of some of the worst-performing stocks of 2022, such as Nvidia, Amazon, Meta, Tesla and Apple.

Depending on how you want to define “the market” of stocks, client portfolios generally captured about half the return of the “equally weighted” S&P 500. [1]

The MSCI World Index, which tracks the performance of large and mid-cap stocks across 23 developed markets, increased 18.7%, outperforming the MSCI Emerging Markets Index, which rose 12.4%. The developed markets benefited from the faster recovery from the pandemic, the fiscal and monetary stimulus, and the innovation in the technology sector. The emerging markets faced challenges such as the banking crisis, the currency depreciation, violent conflicts in Ukraine and the Middle East and an erratic and militant Chinese government. My clients had little international exposure until the very last days of 2023 when as discussed below, certain opportunities in non-US stocks seemed to be bargains.

Fixed income instruments such as bonds and preferred stock had a rough year at the start then recovered and bond indexes actually managed to post a very small gain.

At year-end 2022, a brutal year for both stocks and bonds, “The Economist” ran an article headlined “Why a Global Recession is Inevitable in 2023.” With interest rates soaring to levels not seen in a generation, Wall Street veterans such as myself were reminded of the warning by the late Martin Zwieg: “don’t fight the Fed.” That is, when monetary conditions are tightening, risks for stocks become especially high. My worries seemed fully justified when in March a significant financial institution, Silicon Valley Bank, was unable to honor requests for withdrawals, followed by Signature Bank and Silvergate Bank. Nighttime news showed people lined up outside the banks seeking their money, and the world began to feel like 2008 all over again. Why did these banks run into trouble? In the face of low borrowing demand from clients, they’d invested capital into long dated fixed income instruments. These are particularly sensitive to changes for ambient interest rates.  Apparently, Silicon Valley and the others held T-bonds with yields of 2% and under.  As the Federal Reserve goosed interest rates, and newly issued T-bonds began offering 4% or more, the paltry return on the banks’ investments created “marked to market” losses.  When the banks were forced to sell their low yielding T-bonds to fulfill depositor withdrawal requests, they began booking deep losses.

To prevent a crisis, one created by the Fed, another government agency, the FDIC announced it would backstop customer deposits larger than even the statutory guarantee of $250,000 per depositor,[2] banking authorities managed to sell off the struggling banks to other, larger banks and a near panic dissolved within weeks.  This apparent act of desperation signaled to many, including myself, that bank failures would not be controlled and worse was to come.  Thankfully, things calmed down and the banking crisis was, by mid-year, forgotten by investors. As we begin 2024, I remain concerned that a time bomb in smaller banks could again explode.

With these goings on afoot, I did the responsible thing, further trimming equity exposure early in the year, especially certain successful positions that had become over weighted[3] for a few clients. I now regret this cautiousness, as by year end certain tech names like Microsoft and Apple exploded, achieving record high quotations.

As the year progressed, my Quarter End reports chronicled the challenge of navigating through one of the weirdest financial years I can recall. Nearly all clients own “balanced” portfolios, those holding both equities, bonds and cash. With stocks initially very weak and bonds equally sick, it looked like a major recession was on tap, so I battened down the hatches.  Stocks were sold and the proceeds parked in “overnight” money market funds as their yields became very tasty. For most of the second half of the year funds like the Schwab Value Advantage (SWVXX) and Schwab Treasury Money Fund (SNSXX) began offering an annual return of 5.25% or more with no risk!

As the year progressed, month after month, annualized U.S. inflation deflated from a high of about 9% in 2022 to the current run rate of about 3.5%.  Respected bond experts like Jeffry Gundelach quickly changed their bearish tone and suggested that the Federal Reserve Board was done raising rates. Suddenly, depressed bond prices began to march upward and yields to fall. The stampede accelerated and by this December the ten year Treasury Bond yield fell from about 5% to just under 4%. In other words, it appears we are entering a “normal” period for interest rates.

In retrospect, some of my decisions were overly cautious. During the summer I wrote that I would not be surprised to see T-Bond yields rise as high as 7%. So far that appears to have been a too dismal outlook. But we tend to make judgments based on our past. My experience during the late 1970’s and early 1980’s  saw  the Fed push rates to about 12% to wring inflation out of the system.  We then had what is called “demand-pull” inflation, largely driven by a Baby Boom generation entering their marriage-and-babies time of life, seeking to buy homes and furnish them.  The most recent inflation appears to have been largely the result of supply chains thrown into chaos due to the Covid pandemic. Economists will surely formulate an explanation for the rapid decline for inflation of the past 18 months, but the crisis seems to have quieted down, for now.

As the odds of further interest rate increases faded in the 4th Quarter, I began shifting some money into stocks. Client portfolios have, therefore begun returning toward a normal, less defensive posture. However, as of year-end 2023, most clients still hold a historically high amount of cash in purchased money market funds as these continue to offer yields north of 5% with little risk.

Recent purchases include a VanEck Semi-Conductor fund holding a mix of chip companies like Nvidia, Intel, Texas Instruments Qualcomm and Broadcom to name a few.

I feel that foreign markets like India are cheap relative to the United States. This can be seen in a recent allocation to Matthews India mutual fund. Additionally, I have also nibbled at a European based infrastructure and toll road operator Vinci (VCISY) for some clients. For others, particularly smaller accounts I’ve purchased a highly regarded domestic mutual fund, Parnassus and an international fund, First Eagle International. Both have some of the most consistent and impressive performance records I can find.

2024 is going to see challenges. I’m worried about other financial institutions such as insurance companies who have loaned money for office building construction. Then there is the ever-present and unpredictable set of circumstances in the international scene. Finally, a presidential election and its lead up is certain to roil the financial seas. Still, I’m fairly optimistic about 2024. At our client luncheon on December 7, I explained that if my target portfolio allocations perform as expected, clients may see a return in the 7% to 8% range[4], and with lower volatility than market indices.

Gary E Miller, CFP

 

[1] Each portfolio is individually structured and managed in a true “boutique” fashion, but most clients saw gains of about 7.5% in 2023.  NOTE: Past performance is no guarantee of future results. Financial markets can be unpredictable and volatile.

[2] Apparently, some influential technology moguls had $ millions on deposit.

[3] Typically, I target a position at 5% of total portfolio value. For highly successful stocks like Apple and Microsoft, some client allocations have grown to 10% of more of portfolio value before being trimmed.

[4] Individual performance will vary as each client’s portfolio is managed to meet my understanding of their goals.