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Economic Forecast for 2024

Economic Forecast for 2024

February 12, 2024

2023 was a surprisingly good year for the economy. The recession that many experts expected would happen never materialized and the market was actually up by the end of the year. In this article, we'll take a look at what happened in 2023 and why, and what the experts are forecasting for 2024.

How Stocks Performed in 2023

The S&P 500 closed at 4769.83 at the end of 2023, a gain of 24.23% and well above the most optimistic expectations of the major Wall Street analysts.

There may be several reasons for this. The first reason was that many observers and economists expected a recession in the first half of 2023. It never came. They saw higher interest rates and bond yields as depressing stock returns. Also, most experts and investors alike didn't anticipate the swell of artificial intelligence enthusiasm. Few imagined the progress, widening interest, and implementation of AI. As AI developments unfolded, they sparked a powerful lift in technology companies, which buoyed the rest of the stock market. Stocks also benefited from falling yields as inflation decelerated faster than many had anticipated, leading to hopes of a Fed easing.

Despite periodic worries over the health of regional banks and episodic worries that the Fed may remain restrictive for longer than hoped for, stocks moved higher, closing strongly in the final two months of 2023.

Let’s talk about some of the factors that led to this.

What Drove Market Performance in 2023

After a disappointing 2022, stocks moved higher to start the year and continued higher for the remainder of the year outside of a few notable retreats.

I want to draw your attention to the plot points on the graph below because they highlight the key storylines that drove the stock market in 2023. They come down to two broad themes: the track of inflation and the Fed. As you can see in the early part of the year, the Fed is still hiking rates in the face of still too high inflation. Nevertheless, the market is moving higher perhaps for two reasons–bargain hunting and anticipating inflation will moderate, and the Fed will eventually stop its rate hikes.

As we look at the data points later in the year, sure enough, inflation is coming down, and the Fed is now pausing on further hikes, so much so that by the December FOMC meeting, the Fed is signaling rate cuts for 2024. Of course, markets never move in a straight line. There were some hiccups in this advance. One was the so-called regional banking crisis in March and some backtracking on inflation progress in September and October. A relatively strong economy–and a jump in inflation–caused some concern in the fall that the Fed may not have room to ease, which is why we saw bond yields peaking in October. However, as inflation resumed its decline, by December, the Fed was comfortable signaling to the markets that rate cuts may be in the offing in 2024.

Finally, keep in mind that amid falling inflation, labor markets remained robust, and the economy was reasonably healthy, which raised hopes for a soft landing.

Corporate earnings are one of the factors that drive stock prices over the long term. As the chart shows, the earnings growth for the S&P 500 companies appears to be emerging from what market watchers call an “earnings recession,” that is, when there is at least two straight quarters of negative earnings growth. As you can see, corporate profit growth decelerated in the three quarters preceding the most recent quarter of reporting–the third quarter 2023.

Overall, companies struggled in recent quarters due to rising prices and global economic growth slowdown. But Q3 was more encouraging as companies recorded positive profit growth for the first time since the third quarter of 2022, aided in large part by revived consumer spending. While the third quarter growth was welcomed, it was driven by just a few sectors of the economy. This narrow contribution to earnings growth is concerning, and leaves some investors worrying about the durability of earnings growth in the year ahead.

We already touched upon some of these economic numbers, but let's spend a little time getting a broader view of the economy in 2023.

This year, the word used by Wall Street and economists alike was "resilient." They remarked on our resilient economy, our resilient labor market, and the resilient consumer. As the table below illustrates, the description is an apt one. With fresh interest rate hikes throughout the first half of 2023 on top of unprecedented rate hikes in 2022, many felt that these so-called "demand destruction" efforts by the Fed to lower inflation would do just that: reduce consumer and business demand by making purchases and capital investments more expensive.

While such rate hikes can take a while to work themselves through the economy, and whose lag effects may yet still be felt, the actual experience was that the economy grew at a respectable rate and is slated to expand nicely in the fourth quarter, and the labor market was strong beyond many experts' ability to explain it. All the while, inflation maintained its downward trend from its height in 2022.

The economy in 2023, however, had its issues. Consumer sentiment has remained low and stagnant. Though this seems paradoxical amid healthy economic growth and strong employment, consumers have been especially concerned about the high cost of goods and services. Many experts forget that the sharp run-up in prices of 2022 hasn't come down, even if today's inflation rate has. The reality is that despite disinflation, prices today are much higher than they were pre-pandemic, which has soured the mood of many Americans, especially those who are least able to bear the financial burden of higher prices.

We also see pessimism in the housing market, as reflected in the sentiment index of home builders. High mortgage rates and climbing home prices have left builders and prospective homeowners discouraged about the affordability of buying a new home.

The State of the Market in Q1 2024

So, we’ve looked at some factors affecting market performance in 2023. Next, let’s look at where we are now and examine the headwinds and tailwinds that could affect the direction of economic growth and financial markets in 2024.

To create some context around where the economy stands now, let’s examine where we stood in November 2020. I picked this as a reference point since it represents a moment in which the nation was finally emerging from the pandemic, though not completely out of it, and Americans went to the polls to vote in national elections. As expert indicators suggest, the outlook for the next 3-6 months was mixed. The Federal Reserve’s monetary policy was still accommodative, and interest rates sat at historical lows. Nevertheless, the economy appeared weak, hurt by consumer sentiment and the labor market. Inflation still looked unthreatening at that time.

Now, let’s consider the end of 2022 when many economists and market watchers predicted a recession in 2023. As the indicators suggested, there were good reasons to worry about a recession. As we can No economic or financial indicator suggested a strong economy or stock market. Important measures, like consumer spending, corporate profits, and inflation, were neutral, while monetary policy, housing, interest rates, and leading economic indexes were all in flashing red. Fortunately, the economy and the stock market were a bit more resilient than many imagined. Despite the gloom entering 2023, the economy and stock market would defy expectations–a reminder that investors should pause before adjusting their long-term investment plans.

Now, let’s take a look at January 2024. As the indicators suggest, “caution” may be a good word to describe the economy as we enter the new year. Consumer spending, corporate profits, inflation, monetary policy, housing/mortgages, interest rates, and the leading economic indicators are all neutral. Additionally, the geopolitical risk and international economic categories are red. It seems that despite the stock market’s end-of-the-year rally, nearly all financial indicators remain neutral as we enter a presidential election year.

Let’s examine one of those speedometers more closely: the Leading Economic Index (LEI). This index includes ten components, ranging from stock prices to manufacturing orders. This data may give a clearer view of where we are when examined together. As the chart below shows, the outlook trended lower throughout 2022 and 2023, though it appears to have bottomed out at the close of 2023. The LEI has been accurate in anticipating the three recessions since the year 2000. However, it appeared to signal a recession for 2023 incorrectly. In fact, GDP growth rose even as the LEI was painting a weaker economic picture. So, while no economic indicator is ever 100% perfect in predicting the economic future, the LEI remains an important input into developing our views about the economy in the coming months. Remembering that past performance may not lead to future results is important. But, as we review charts like these, history can help suggest where we are in the economic cycle. It’s also important to remember that forecasts are based on assumptions and subject to revisions over time. Financial, economic, political, and regulatory issues may cause the actual results to differ from the expectations as you see them expressed here.

Potential Headwinds

From the leading economic indicators and speedometers, it’s clear that “uncertainty” is the watchword for the economy in 2024. The outcomes range is quite wide, as economic performance may turn on a few key variables.

The first potential headwind facing the markets is inflation. While inflation has come down from its post-pandemic highs, it has remained persistently above the Fed’s 2% inflation target. It may handcuff the Fed a bit if inflation remains stuck in the 3-4 percent range. However, at its final meeting in 2023, the Fed said it anticipates three rate cuts in 2024.  

That leads to our next potential market headwind – recession. The much-feared recession did not materialize in 2023, but recessions are a natural and inevitable part of the economic cycle. While a case may be made for avoiding a recession this year, there are plenty of reasons that a recession may emerge. Among them are resilience of consumer spending, continued global economic weakness, especially in China, and the surfacing of the delayed impact of the steep rise in interest rates over the last two years.

Corporate earnings may be a headwind. If stock prices are to move higher, they need to improve from recent levels. We earlier showed how third-quarter earnings have hinted at this recovery; the market’s current valuation level may have already priced in this recovery, and should the expected growth in earnings fail to materialize, it will be difficult for stocks to rise from these levels.

Geopolitical tensions are always a wild card for the markets. First, it was the unanticipated invasion of Ukraine in 2022, and then it was the conflict with Israel in 2023. Looking ahead, we see a stalemate in Ukraine, ebbing Western support, and uncertainty as to what follows in the Gaza Strip, and, of course, China’s muscle flexing in the Pacific region remains worrying.

Finally, the stock market now has competition for investor dollars. With bond yields at levels not seen in decades, many investors may find that they can obtain reasonable returns at less risk, leading to fewer dollars to support higher stock prices.

Potential Tailwinds

While the headwinds facing stocks are uncertain, they are not to be underestimated. There are several potential tailwinds that may support the financial markets in 2024.

One reason for the rally in the fourth quarter of 2023 was continued deceleration in inflation. If inflation maintains its downward trend, it will be positive for stocks since it may help increase corporate profits and allow the Fed to move ahead with rates cuts in 2024. The caveat here is that the Fed has said it will need to stay committed to the inflation fight.

Another potential tailwind is the prospect of China returning to strong economic growth, which can have broad benefits for the global economy. China’s economy has been struggling under the weight of a late lifting of COVID-related restrictions, among other factors. Nevertheless, they remain a dynamic economy that may only be a government intervention away from a recovery.

Finally, there is the start of a new economic revolution, akin to electricity and computers. Of course, I’m referring to artificial intelligence, or AI. The emergence of AI was a big story in 2023 and a major catalyst for the market. Much of the excitement was based on the future potential. This year we may begin seeing the initial real-world impact to businesses as AI potentially turns into a new and substantial revenue stream for the AI ecosystem of providers, from chip makers and software companies to cloud providers through which these AI models operate. Perhaps more importantly, we may also see non-technology companies begin wider implementation of AI in marketing, sales, operations, and administrative functions to drive growth, productivity, and higher profits.

Market Forecast for 2024

Before discussing Wall Street analysts' predictions, let's examine some important inputs that may impact the stock market's direction in the coming year.

As many of you know, corporate earnings may be a key driver of stock market performance in 2024. According to FactSet, a leading financial data and analytics firm, earnings are expected to trend higher in 2024, plateauing by the fourth quarter. While that is a good sign, it's also difficult to say how much of that earnings growth expectation has already been priced into stocks, especially in light of their current valuation level. Estimating quarterly earnings is difficult, but such estimates can help guide decisions about what price to pay for a stock. If earnings are healthy, it may support higher prices. Conversely, should earnings come in short of expectations, it may put downward pressure on stock prices. But if we've learned anything during the past couple of years, the outlook for financial markets can change quickly.

The course of stock prices in 2024 may be correlated to the Fed's decisions about interest rates. One tool traders look to understand where rates may be heading is the CME Fedwatch tool, which analyzes the probabilities of future target rates, as implied by the 30-Day Fed Funds futures pricing data. If we look at where the market thinks the Fed is going, we see that the market believes there is almost a 42.5 percent probability of the Federal Funds Rate falling by 50 basis points, or a half of a percentage point by June-end. In early December 2023, the Fed Funds Rate was 5.25 percent to 5.5 percent. Traders also price a nearly 20 percent probability for a 75-basis point decrease within the first six months of 2024, while there is a 30 percent likelihood of just a quarter of one percent cut. There is only a 7 percent chance that rates will remain unchanged by mid-year. The market’s optimism has often raced ahead of the Fed’s intentions, so investors should be cautious. However, if these cuts come to fruition, it may have positive implications for stocks. Keep in mind the CME Group's table changes daily.

Economic forecasters surveyed by the Philadelphia Fed in the fourth quarter updated their outlook for Q4 2023 and all of 2024. They slightly increased their expectations for Q4 GDP growth to 1.3 percent from 1.2 percent. In 2024, they anticipate positive growth each quarter. So, at this point, no recession appears in the forecast. Interestingly, their unemployment rate projections stay flat throughout the first half of 2024, with a slight uptick toward year-end. It will be interesting to see how–or if–economic growth influences the unemployment rate. 

So, what are the major financial firms forecasting for domestic stock prices in 2024? As they did for 2023, analysts are painting a mixed year for stocks, as the average forecast sits about where stocks ended in 2023. You’ll notice significant divergence in these forecasts, running from as low as 4,200 to 5,100. This range of sentiment from bearish to modest optimism may be largely attributed to many of the issues we discussed in this presentation. Will the Fed cut rates or keep them high for a longer time? Will we have a recession? Will it be that hoped-for “soft landing,” or will the economic landing be harder? Will corporate profits grow into current valuations? Will inflation continue to decline? Many of these are binary events. For instance, the Fed will cut rates, or it won’t. This set of binary possibilities has resulted in much uncertainty as we head into 2024, and that uncertainty is shared by market experts from the most prominent firms. Of course, no one knows what equities will do in 2024, and predictions at this stage are just that–predictions.

How You Can Prepare

We’ve covered a lot of information, focusing most of our discussion on what drove the market and what we expect to move the market over a short period.

I want to end our investment discussion with a word on the importance of investment discipline or sticking with your investment strategy. The potential of stocks to help build wealth over the long term may be challenging when investors move in and out of the financial markets. If we look at this image, we see a direct correlation to the probability of having positive gains in stocks with the time such investments are held.

So, for instance, over the last 94 years, 73 percent of all one-year periods had positive returns. However, if we travel out to longer holding periods, we see the likelihood of investment success rise to 84 percent for three-year periods, 88 percent for five-year periods, and 94% for 10-year holding periods.

What can you do in 2024 to move closer to your goals? Here are some action items:

  1. If your life or personal situation changes, keep your trusted financial advisors in the loop. We want to hear about important family events, like births and deaths. We also care about health issues, employment changes, and any financial developments that may change your situation. If you find yourself thinking about new goals or reevaluating your priorities, share your thoughts with us so we can help you pursue the life you most desire.
  2. On top of specific adjustments in your financial life, we also want to know how you feel about investment changes. These could be details like risk tolerance shifts or market environment concerns.
  3. Finally, review your estate documents, beneficiary designations, and other paperwork to ensure they’re all up-to-date. A well-organized estate is one of the best gifts you can give to your family.

We’re here to discuss any financial questions or worries you may have. Our priority is always to help you make informed choices and stay on track.

Throughout 2024, we'll focus on delivering the following:

  1. We’ll keep our clients, family and friends informed with regular communication.

  2. We’ll manage our clients' investments according to a personalized strategy.

  3. We'll remain abreast of economic factors and adjust accordingly.

If you need professional guidance for 2024 and beyond, give us a call at 614-408-0004.

Sources:

CNBC.com, May 11, 2023

https://www.cnbc.com/market-strategist-survey-cnbc/

February 1, 2023: Fed Hikes Rate 25bp

https://www.wsj.com/articles/fed-approves-quarter-point-rate-hike-signals-more-increases-likely-11675278190

June 13, 2023: Inflation Hits 2-Year Low

https://www.cnbc.com/2023/06/13/cpi-inflation-report-may-2023-.html

WSJ.com, November 5, 2023

https://www.wsj.com/business/earnings/breaking-down-the-best-earnings-quarter-in-a-year-a62ad2a8

TradingEconomics.com, December 14, 2023

https://tradingeconomics.com/

UMich.edu, December 14, 2023

http://www.sca.isr.umich.edu/

NAHB.org, November 16, 2023

https://www.nahb.org/news-and-economics/housing-economics/indices/housing-market-index

 AtlantaFed.org, December 14, 2023

https://www.atlantafed.org/cqer/research/gdpnow

BLS.gov, December 15, 2023

https://www.bls.gov/

CNR.com, November 2022

https://www.cnr.com/content/dam/cnrcom/articles/economic-outlook/city-national-rochdale-historical-speedometers.pdf

CNR.com, December 2023

https://www.cnr.com/content/dam/cnr/insights/documents/city-national-rochdale-historical-speedometers.pdf.coredownload.inline.pdf

CNR.com, January 2024

https://www.cnr.com/content/dam/cnr/insights/documents/city-national-rochdale-historical-speedometers.pdf.coredownload.inline.pdf

Conference-board.org, November 20, 2023. Chart through October 2023

https://www.conference-board.org/topics/us-leading-indicators

FactSet.com, December 2023

https://advantage.factset.com/hubfs/Website/Resources%20Section/Research%20Desk/Earnings%20Insight/EarningsInsight_120823A.pdf

CMEGroup.com, December 10, 2023

https://www.cmegroup.com/markets/interest-rates/cme-fedwatch-tool.html

Philadelphia Federal Reserve Bank, November 13, 2023

https://www.philadelphiafed.org/surveys-and-data/real-time-data-research/spf-q4-2023

Finance.yahoo.com, December 7, 2023

https://finance.yahoo.com/news/wall-street-bull-gives-highest-2024-sp-forecast-yet-192122201.html

Capital Group, 2023

https://www.capitalgroup.com/individual/planning/investing-fundamentals/time-not-timing-is-what-matters.html