January 22, 2024

Investment Insight: Q4 2023

2023 Economic Review

Throughout 2023 we repeatedly used the term “resilient” to describe the U.S. economy. The most readily visible evidence of this resilience was seen in quarterly GDP results.

As we progressed through the first three quarters of the year, the results were consistently higher than anticipated. The third quarter represented the strongest of the year’s first three quarters registering growth of 4.9%. The key variable contributing to the robust growth was a firm employment environment. This environment was characterized by continued low unemployment, ample job openings, and meaningful wage growth.

This combination translated into consumers that had secure incomes and with those incomes an ability to purchase goods and services. Given the significant role consumption plays in the U.S. economy, the rate of growth becomes more robust when the consumer has the capacity to buy goods and services. Not surprisingly, the biggest contributor to the economy’s third quarter growth was consumer spending.

While the term “resilient” is still appropriate in describing the economy it needs to be acknowledged that the resilience is beginning to wane.

Forecasted GDP growth for the fourth quarter is expected to register a much more tepid reading of 1.0% according to FactSet. The Federal Reserve Bank of Atlanta’s GDPNow estimate of fourth quarter growth currently sits at 2.0%, representing a rate of growth that is less than half the third quarter’s actual result of 4.9%.

The tepid growth is currently projected to continue into 2024 as GDP is expected to generate growth of only 0.6% for the first quarter according to FactSet.

Although the words tepid and waning may be appropriate adjectives to use to describe economic growth going forward, they do not necessarily translate into negative growth or recession.

Our current base case, as discussed in our recent Economic Themes publication, is that we will see positive but lower growth as we move into 2024.

Some of the variables that are expected to contribute to ongoing positive growth is a labor market that bends but does not break, a Federal Reserve that implements multiple reductions in the Fed Funds rate and relative stability in key industries such as housing and auto production.

Regarding the key industries referenced above, according to Cox Automotive, auto production in 2024 is forecast to reach a level of 15.6 million.

While this level represents only a slight change compared to 2023 production it does represent the aforementioned stability. Housing delivered some interesting results over the past year.

Existing home sales experienced a precipitous drop, while new home sales remained relatively steady, with the result for November registering an annualized rate of 590,000 compared to the November 2022 report of 582,000 units. The decline in existing homes sales, from an annualized level of 4.6 million in February to a level of 3.8 million in November, was attributed to the reluctance of homeowners to relinquish low-rate mortgages locked in, at, or near the trough in mortgage rates.

Results are expected to improve on both the existing and new home fronts in 2024 as mortgage rates ease and new supply comes to market.

Also lending support to further economic growth are consumer sentiment surveys that have recently registered higher than forecast readings indicating a growing level of confidence.

Asset Allocation Overview

Financial markets reversed course in the fourth quarter with both equity and fixed income markets providing very strong returns for the period. The strength was more than enough to offset the negative performance from both asset classes in the third quarter.

Given the turnaround in asset class returns each of our seven allocations generated positive results for the quarter. Not only that, but each also generated a meaningful return for the entire year. Excluding the two most conservative allocations, double-digit performance was realized across the board for 2023.

With its three-month return of 12.1% the Russell 3000 Index of domestic equities achieved its best quarterly performance since the final three months of 2020.

The annual return of 26.0% was the highest since the 31.0% that was generated in 2019. Fixed income’s return of 5.5% was solidly positive and allowed bonds to avoid a third consecutive year of negative performance.

Throughout the fourth quarter we maintained our neutral positioning across each of our seven investment objectives. In fact, we actually maintained the neutral state for the entire year.

This static strategy worked quite well in 2023 and was in alignment with the tenets of our investment philosophy which includes a long-term view of the financial markets. As the year progressed, we saw significant gyrations in both the equity and fixed income markets.

Over the course of the year’s first three quarters, bonds were negative in terms of year-to-date performance. At various points in time small cap and foreign equities were both being touted as emerging leaders of the stock market. By the end of the year, however, bonds had migrated to a meaningfully positive annual return and large cap domestic stocks had totally dominated the other segments of the equity market.

Given our economic, equity and fixed income outlooks we begin the new year with our neutral allocation stance still in place. As always, we will be consistently monitoring economic data and developments across the financial markets to determine if a move away from neutral is warranted.

In conclusion, we encourage investors to review their current investment objective and evaluate its level of appropriateness given their goals and level of risk tolerance.

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author avatar
Daniel Davidson