Contributors: Andrew Walker, Bruce Ensrud, Matt Stockman
THE SHORT STORY
Contrasted with the dismal year for markets in 2022, this year has been off to a great start – this despite further rate hikes and concerns around ongoing issues in the banking sector. Looking under the hood, most of the strong performance year-to-date can be traced back to a small handful of stocks. In fact, of the 7.5% Q1 2023 S&P 500 return, 6.9% came from the top 7 stocks in the index. Looking further, we see that almost half of the S&P 500 generated negative returns during the quarter.
What does this mean, when paired with our expectation for higher volatility going forward and many lingering macro concerns? It means that there must be an increased focus on risk management, fundamentals and valuations going forward.
Amidst the uncertainty and fear that can come in today’s world, we cannot lose site of the fact that wealth comes in many forms. Finances are incredibly important, but perhaps not as meaningful or impactful as other forms of wealth.
Where We’ve Been – 2023 Q1 Review
Heading into 2023, investors had a generally favorable market outlook, and were balancing the hope of the rate hike cycle ending with looming recessionary concerns. During the quarter, markets grappled with countervailing forces, but ultimately the bulls won the day with prices up broadly to start the year. On the positive side, strong economic data and moderating inflation provided renewed hope for a “soft landing.” On the negative side, bears pointed to falling corporate profits and bank failures as reason for concern. In the middle (for once), was the Federal Reserve, which adhered to its rhetoric of fighting inflation, but doing so with only modest rate increases.
Moderating inflation and modest rate hikes resulted in rate-sensitive large cap growth (mainly, tech) stocks performing exceptionally well. The Nasdaq Composite – a proxy for tech stocks – was up almost 17% on the quarter! Looking under the hood at Q1 performance, enthusiasm is muted when realizing that market returns were somewhat lackluster when looking past large cap tech stocks. In fact, of the 7.5% Q1 2023 S&P 500 return, 6.9% came from the top 7 stocks in the index. Almost half of the S&P 500 generated negative returns during the quarter.
The dollar weakened during the quarter, as it became clear that the Fed is nearing the end of its rate hiking cycle. The weak dollar provided a tailwind to developed international markets during the quarter as well – continuing their 2022 outperformance over US markets.
| Market Category | Market Index | Q1 2023 |
| US Large Cap | S&P 500 | 7.5% |
| US Small Cap | Russell 2000 | 2.7% |
| International Developed | MSCI EAFE | 8.6% |
| Emerging Markets | MSCI Emerging Markets | 3.8% |
| US Bonds | BB US Aggregate | 3.0% |
| US Dollar | DXY* | -1.0% |
Where We’re Going – Q2 2023 Outlook
As usual, there is no shortage of headlines designed to provoke intense emotions. Concerns persist around the ongoing conflict in Ukraine, the looming US debt ceiling, the US banking sector, commercial real estate, global de-dollarization, and a potential recession. An upcoming presidential election cycle will likely further propagate anxiety.
That said, managing finances expertly is incredibly important, which is why we study markets daily to ensure portfolio allocations are prudent across different market environments. Looking forward, we continue to expect interest rates to remain higher for longer as lingering inflation forces the Fed to keep rates higher for longer. We expect this new regime of higher rates to bring with it higher levels of volatility than we have seen since the Great Financial Crisis, and to require a focus on fundamentals and valuation.
In addition to an environment of higher market volatility, we also expect a mild recession sometime in late 2023 or early 2024. Historically, recessions tend to occur 2 to 2.5 years after the start of a rate hiking cycle (it has currently been about 1.25 years). With this, it is possible that we retest market lows. Interestingly, markets tend to bottom after the Fed is done raising rates and after a recession starts. Ultimately, we see a retest of the lows as a mild tail risk, but it is not our base case expectation going forward. We do remain defensively positioned, however, given our expectation of higher market volatility. Among other things, this means prudent rebalancing, and an overweight to large cap and higher quality companies.
Discover a Different Story
In an environment of economic uncertainty, we encourage focusing on all your gifts of wealth. When we redefine wealth to include your finances, but also your attitude, time, relationships, and abilities – your story can transform.
Here are a few prompts to help you root into a story of hope and contentment:
- What attitude can you adopt when going about your day?
- How and where will you spend your time?
- How will you invest in your treasured relationships?
- What impact could you have with your abilities?
Thank you for allowing us to partner with you as we navigate the ever-changing market. We appreciate your continued trust.
If you have questions or would like to dive deeper into this quarter’s outlook, please reach out to our investment team. We’d be happy to set up a virtual coffee to talk more.
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This material is provided for informational purposes only and is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The views and strategies described may not be suitable for all investors. They also do not include all fees or expenses that may be incurred by investing in specific products. Past performance is no guarantee of future results. Investments will fluctuate and when redeemed may be worth more or less than when originally invested. You cannot invest directly in an index. The opinions expressed are subject to change as subsequent conditions vary. Advisory services offered through Thrivent Advisor Network, LLC.
This communication may include forward looking statements. Specific forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts and include, without limitation, words such as “may,” “will,” “expects,” “believes,” “anticipates,” “plans,” “estimates,” “projects,” “targets,” “forecasts,” “seeks,” “could’” or the negative of such terms or other variations on such terms or comparable terminology. These statements are not guarantees of future performance and involve risks, uncertainties, assumptions and other factors that are difficult to predict and that could cause actual results to differ materially.
Index Benchmarks presented within this report may not reflect factors relevant for your portfolio or your unique risks, goals or investment objectives. Past performance of an index is not an indication or guarantee of future results. It is not possible to invest directly in an index.
The Bloomberg U.S. Aggregate Bond® Index, or the Agg, is a broad base, market capitalization-weighted bond market index representing intermediate term investment grade bonds traded in the United States. Investors frequently use the index as a stand-in for measuring the performance of the U.S. bond market.
The MSCI EAFE® Index is a broad market index of stocks located within countries in Europe, Australasia, and the Middle East.
The MSCI Emerging Markets® Index is a selection of stocks that is designed to track the financial performance of key companies in fast-growing nations.
The NASDAQ (National Association of Securities Dealers Automated Quotations) Composite Index is the market capitalization-weighted index of over 2,500 common equities listed on the NASDAQ stock exchange.
The Russell 2000® Index measures the performance of the 2,000 smaller companies that are included in the Russell 3000® Index, which itself is made up of nearly all U.S. stocks. The Russell 2000® is widely regarded as a bellwether of the U.S. economy because of its focus on smaller companies that focus on the U.S. market.
The S&P 500® Index, or the Standard & Poor’s 500® Index, is a market-capitalization-weighted index of the 500 largest U.S. publicly traded companies.
The U.S. Dollar Index – known as USDX, DXY, DX and USD Index – is a measure of the value of the United States Dollar (USD) against a weighted basket of currencies used by U.S. trade partners. The index will rise if the Dollar strengthens against these currencies and fall if it weakens.