We’ve now experienced two consecutive quarters of healthy market gains since the market bottom of September 2022. The long-predicted recession hasn’t materialized despite rising interest rates and a banking crisis.
Current economic indicators are triggering mixed signals. The evidence supporting the possibility of a recession coming includes two historically reliable indicators (GDP growth predictions as expressed in the Index of Leading Economic Indicators from Conference Board, and an inverted yield curve (this is a circumstance where short-term interest rates exceed longer term rates).
However, positive news for the economy keeps rolling in. The most recent estimate of Q1 Gross Domestic Product from the Federal Reserve Bank in Atlanta is positive (up 2.5%). In addition, participation in the workforce is improving as more workers gradually return to the workforce following the sharp decline during the pandemic, which bodes well for consumer spending. And finally, inflation is moderating.
The recession we have been expecting is either being pushed down the road to some time in the future, or we are going to be fortunate and experience a “soft landing”. A recent Wall Street Journal survey of 60 economists forecasted a mild contraction ahead but no recession. Stay tuned.
Stock gains in the first quarter were spread evenly across all sectors. The Wilshire 5000 Total Market Index—the broadest measure of U.S. stocks—gained 7.26% in the first quarter. The comparable Russell 3000 index is up 7.18% so far this year. Behind the nice returns, it’s possible to find a world of uncertainty, and the factors driving things are undeniably complicated. The future is always unknown, but the view ahead today is unusually cloudy. Even so, the first quarter of the year might contain a hidden lesson. Economists have been predicting a recession for half a year now, and anyone who jumped out of the markets based on their predictions would have missed two quarters of nice returns. Long-term investors who don’t jump at every prediction took their gains to the bank.
Today’s Economic Perspective
Current economic conditions are being described among some professionals as “The Split-Personality Economy.” Expectations for a recession, as indicated by some reliable predictors, keep getting pushed back by conflicting positive economic information.
A big part of the positive news is coming from the labor market. Historically low unemployment has dipped to 3.4%, and the labor force participation rate is recovering from the sharp decrease caused by Covid. This is potentially good news for consumer spending and economic growth.
Newly released information also suggests that the economy grew in Q1. The latest estimate from the Federal Reserve Atlanta is estimating 2.5% growth.
Inflation is starting to moderate, and expectations regarding inflation going forward are that it has peaked, following the post Covid surge.
Other positives include improving auto sales, oil prices are down, corporate balance sheets are strong, and the Fed took swift and potent steps to help banks have the ability to meet the needs of all their depositors.
Today’s Market Perspective
For perspective on stock investing, it is helpful to recall how stocks performed in 2021 and 2022. 2021 was a strong year which produced stock market gains of about 34%. It’s logical that moderation would occur, given the long-term average return on the stock market of about 10% including dividends.
2022 by contrast was a tough year. Large cap stock indexes lost about 19% despite some gains in the fourth quarter.
Enter 2023 and the large cap markets have gained 7.26% in the first quarter and are up significantly from their bottom in September 2022.
Bonds are emerging from the lowest long-term interest rates in U.S. history. Long-term interest rates were as high as 14.59% in 1982. This has been followed by a continual downward trend until 2019, where the fell to about 1%. Now rates are approaching 4% which puts them in a historical “normal” range.
To bond investors, the underlying price of a bond you own can increase in value if rates decline and decrease in value if rates go up. Rates are going up, which can impede the contribution to the performance of a diversified portfolio.
Short-term market volatility (in both stocks and bonds) is simply a reality of investing. A reasonable expectation as an investor is that the more uncertainty and volatility you are willing to endure, the higher you can expect to be compensated for your “risk premium.” It is important to understand the risk-reward features of your investment strategy to make sure you are comfortable with reasonable expectations of how your investments can be expected to perform.
Final Thoughts
Mixed signals from economic data are making the ability to predict what’s next for the economy and markets difficult. To our clients, this shouldn’t really matter, because you are not going to be advised to move in and out of the markets by virtue of predictions of the future.
Our focus is to help clients achieve their most important goals by participating prudently in risk markets. Our process recognized time as a key factor in investing and integrates goal funding and investment strategy. Our desired outcome is to fund client needs without having to recognize investment losses to do so. At the same time, we strive to allow long term assets to stay invested through different market cycles so as not to experience unnecessary opportunity costs.
