What’s UP with the Stock Market So Far This Year?

Wondering why markets are up so much to start the year? Especially since Wall Street expected them to drop? What about that January jobs report, it seems like the labor market is still really strong despite the news of layoffs. We discuss markets and the economy in this post and on the latest episode of the podcast. Listen to the full podcast discussion here!

What’s happened in the stock market so far this year?

Most asset markets, including stocks and bonds, have had a strong start to the year. Tech companies like Facebook (Meta) and Tesla are up more than 50% from the beginning of the year, and that has made news. But the strongest returns in broader markets have come from smaller company stocks in the U.S. Small and mid-cap stock indicies are up around 10% year to date. They are leading the way, followed by international stocks, both in developed markets like Europe and Japan and emerging economies like India and China.

Publicly traded real estate is up year to date as well, with broad indicies up around 10%. Remember, public and private real estate prices often diverge for short periods of time. Your house and other privately held commercial real estate likely did not fully re-price as interest rates rose in 2022. Most private real estate values are down slightly to start the year.

Bonds, especially longer-term and higher yield bonds have performed well. Bond prices move inversely to interest rates. As interest rates have fallen, bond prices have risen.

In the 4th quarter of 2022, we started suggesting that investors consider rebalancing back into stocks and other investments that declined in 2022. The start to this year demonstrates why rebalancing is so important. The consensus from Wall Street was for equity markets to struggle in the first half of the year and perhaps bounce back in the second half. It certainly seems like market consensus has turned positive over the last few weeks.

What’s Really Changed in the New Year?

In our view, the real answer is not much outside of increased asset prices.

We expected inflation to cool off, and it has. The inflation decline has been driven mostly by goods prices and food and energy. Services inflation remains stubbornly high because the labor market remains tight.

We thought the job market would remain tight, and it has. We saw that illustrated in the recent jobs report, which showed more than 500,000 jobs added to payrolls in January. The report may be slightly high, but other labor data corroborates the perspective that the labor market is tight. Unemployment claims have been low. The household employment survey, which includes business owners and self-employed workers, also showed strong employment. Our view is that the labor market remains tight, but is not moving back to being on fire like early 2022.

We expected positive Q4 GDP, and we got it. 4th quarter GDP came in at 2.9%, consistent with moderate economic growth.

So, we have low unemployment and solid GDP growth. Obviously, we aren’t in a recession. There is some negative news as well though.

We expected corporate profit declines, and we have seen that so far from earnings reports. S&P 500 companies are reporting an earnings decline of -5.3% in Q4 of 2022. Also, fewer companies are beating their earnings estimates than usual.

We have also seen a slowdown in manufacturing and retail sales activity, no doubt because consumers are continuing to shift their spending back to services. The underlying economy is slowing down and corporate earnings are falling.

if we expected lower earnings and less inflation, why the big stock market increase?

Markets don’t behave perfectly rationally, especially in short-time periods. It is important to maintain your long-term mix of stocks and bonds and not try to call the market bottom.

The reality is, whether we have a recession or not, the economy is slowing down from an overheated level. But despite the slowdown, we are likely not moving into a crisis or deep recession. Market participants are looking to position for the next long-term rally after a challenging year in 2022. The “January effect” may be more potent this year than usual. This suggests that markets move higher because investors that are flush with cash from year-end tax loss selling. Given the losses in 2022, more tax loss selling than usual likely occurred in December and that cash needs to be redeployed. With everyone looking to invest cash, data showing declining inflation and the economy moving forward, we have seen investments into stock and bond markets. All of that despite a slowing economy.

We may see some weakness from here and a return to near-term lows with reduced earnings. It is also possible that markets brush off recession and continue to rise. There is no magic formula that answers the question of when markets will stop discounting recession and move on to the next bull market. Again, it’s important to make a long-term investment plan and stick with it over time. Investors that stuck with their plan and rebalanced have benefitted from significant gains year to date.

If you would like to discuss your investments and how to invest prudently in this environment, schedule a short intro call with us. We would welcome the opportunity to discuss your situation.