Chief Investment Officer Outlook
On the surface, 2023 was a great year in the market, with the S&P 500 up over 21% and the Nasdaq Composite up an astounding 47% (through December 8). Nevertheless, outside of mega-cap technology stocks, and specifically the “Magnificent Seven,” the story was a lot murkier. The equal-weighted S&P 500 index was up just under 8%. Weakness in the market was caused by the yield on the U.S. 10-year Treasury reaching its highest level in over a decade. While the impacts of higher interest rates were felt throughout the markets, listed real assets were disproportionately impacted given the capital-intensive nature of their businesses.
Interestingly, the market finds itself in a situation similar to the one it faced at this time in 2022, with market strategists split between a soft landing and a recession. Market bulls believe that we have seen peak rates and expect rate cuts as early as March. We acknowledge that inflation is falling quickly, and we appreciate the resilience in consumer spending and the labor market. However, we still cannot come to terms with the inverted yield curve, a sub-50 Purchasing Managers’ Index (PMI), and a falling Leading Economic Index (LEI), all of which have historically pointed to a recession. Maybe COVID makes the lessons of history irrelevant, but we are also struck by higher credit card delinquencies and a sharp drop in banks’ willingness to lend. The economic situations in Europe and, especially, in China, also do not inspire confidence, with the global economy more likely a drag than a catalyst. Momentum over the last six months tells us that the market wants to go higher, but we are still in the camp that anticipates it running out of fuel with the turn of the calendar.
If the economy can hold in there and continue to muddle along, we think the U.S. Federal Reserve (the “Fed”) is likely to keep rates higher for longer as it tries to drive out the last mile of sticky inflation and avoid the stop-and-go inflation of the 1970s. If we do see the Fed cut rates by March, we think it will be for the wrong reasons. In other words, if this were to occur, unemployment and a falling economy will have forced the Fed’s hands. This scenario is unlikely to be good for stock prices, and would not be what the bulls are envisioning. Perhaps there is a Goldilocks scenario where the Fed can stick a perfect soft landing, but we frankly do not see much room for the market to go higher, especially after the November rally. At 19x forward earnings, the market seems fully valued. We also think there is a lot more downside than upside to the 11% projected 2024 earnings growth, as we expect companies to struggle with declining purchasing power and higher interest costs.
Given our somewhat cautious market outlook, we are optimistic that our real asset strategies – REITs, GLI, Water, and Clean Energy – will be a good place to invest in 2024 versus the broader market. In a choppy market, we like the diversification and defensiveness that they provide. With peak interest rates likely behind us, we also think they are poised for a rebound as investors appreciate their higher dividend yields and more resilient earnings.
Thank you, we look forward to connecting in 2024.
This material is for informational purposes only and not intended as investment advice or a recommendation to buy or sell any security. Information and opinions expressed are those of the authors and may not reflect the opinions of other investment teams within Duff & Phelps Investment Management Co. Information has been taken from sources we believe to be reliable, but its accuracy, completeness or interpretation cannot be guaranteed. Information is current as of the date appearing in this material only and subject to change without notice. Statements concerning financial market trends are based on current market conditions, which will fluctuate. This material may include estimates, outlooks, projections, and other forward-looking statements. Due to a variety of factors, actual events may differ significantly from those presented. Investing involves risks, including the possible loss of principal. Duff & Phelps Investment Management Co. services are not available in all jurisdictions and this material does not constitute a solicitation or offer to any person or entity in any jurisdiction or country where such distribution or use would be contrary to law or regulation.