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Key Financial Market Takeaways from 2023

  • Tech stocks roar back and once again, become expensive and dangerous
  • Fed Chairman, Jerome Powell’s comments after the November meeting fuels a two-month rally
  • Residential real estate market stalls as high rates discourage both buying and selling
  • Portfolio diversification fails as the Magnificent Seven drive the S&P 500 higher
  • Bonds become investable again, as yields top 5%

Key Market Positioning for 2024

  • Focus strategies on risk management and diversification, as broader investment approaches become more important
  • 2024 could be the year for value stocks to lead the way again
  • Do not sleep on bonds. Fixed Income yields are back, and probably belong in your portfolio
  • Sector selection will be important if investor demand rotates from Big Tech
  • Dividend paying stocks may see renewed interest as they can provide appreciation and income
  • Don’t politicalize your investment selections, but instead, stay focused on the long haul

Investment Thematic Ins and Outs

Out with 2023:

  • Artificial Intelligence (AI)
  • Magnificent Seven
  • Private Credit
  • Growth Stocks
  • HOKA® Shoes

In with 2024:

  • Weight-loss drugs
  • Regional Banks
  • Value Stocks
  • Work From Office (WOFROF)
  • Pickleball

2023 In Review

2023 stock market returns were narrow as most of the year saw contributions only from a small group of stocks.  However, on November 1, 2023, Federal Reserve Chairman Jerome Powell delivered a message that thrilled investors.  He announced that the FOMC was no longer anticipating interest rate increases and had moved their attention to lowering interest rates as soon as 2024.  Both stock and bond markets moved broadly higher for the final two months of the year.  By year-end, the NASDAQ Index was the big winner with a twelve-month return of 44.70% (after losing 32% in 2022).  The S&P 500 increased by 26.26% in 2023.  International stocks, Small Cap Stocks, and the Dow Jones Industrial Average all were firmly positive for the year with returns of 18.95%, 16.88%, and 16.18% respectively.  Even bonds participated in the rally gaining 6.75% in the fourth quarter and 5.66% for the year.

During 2023 investors coined the term The Magnificent Seven, to describe the impact of the most influential stocks of the year (Microsoft, Apple, NVIDIA, Amazon, Meta, Alphabet, and Tesla). Influential is an understatement. These stocks dominated 2023, accounting for 30% of the S&P 500 (the remaining 70% is spread across 493 stocks).  If these stocks are removed from the index returns of 2023, the S&P 500 would drop from a 26% to a 13% return.

This concentrated return has some investors second-guessing portfolio diversification.  There is a dangerous consensus developing that successful investing only requires exposure to the Magnificent Seven. 

In real estate markets, residential transactions have stalled as buyers are deterred by mortgage rates exceeding 7%.  Sellers are also reluctant to list homes because of the favorable mortgage rates they booked when rates were under 4%.  Commercial markets remain treacherous as office properties have occupancy rates well below capacity. 

Key Concepts for 2024

The “whipsaw” nature of technology stocks the last two years should alert investors to the outsized risk in a small number of stocks.  The NASDAQ, which holds 50% in the Magnificent Seven, was down 32% in 2022 and up 44% in 2023.  The net return for these two years was -2.34%.  The S&P 500 has a 30% weighting in the Magnificent Seven.  This benchmark index was down 18% in 2022, up 26% in 2023, and was up 3.37% over the entire two years.  Investors should focus on risk and consider diversifying away from the NASDAQ and S&P 500.  This may be the last warning. 

A good spot to seek diversification is value stocks.  The younger generation of investors may be completely unfamiliar with the concept of value investing.  However, now might be the best time to learn.  In times of uncertainty and high interest rates, value stocks can generally offer dividend income, growth, and a limited downside protected by low book values.  With the growth trade becoming very narrow, value stocks might be the solution in 2024.

Bonds have also lost some of their luster after nearly 15 years of languishing with yields below 3%.  Today, bonds can provide annual income of more than 5%.  They are competitive with stocks and demand a spot in a well-constructed portfolio.  Investors should consider exploiting the entire yield curve, not just the short end, as money market securities can see yields drop quickly.  Muni bonds remain particularly attractive for investors in elevated tax brackets.

Breaking news – 2024 is a presidential election year!  Investors should resist over-ascribing correlation and causality between who is in the White House and the success or failure of financial markets.  Politics should only be a very small part of any investing decision.  Instead, investors should stay focused on fundamental investing principles; long holding periods, corporate earnings, risk, valuation ratios, compounding, and the benefits of participating in easily accessible capital markets.

Finally, the historical performance of the Dow Jones Industrial Average (DJIA) shows consistent growth over the decades: 1973 (850), 1983 (1,258), 1993 (3,754), 2003 (10,435), 2013 (16,576), and in 2023, it was at 37,689.  What is it going to be in 2033? 75,000, maybe?  What is your strategy?

D'Arcy Capital

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