First Quarter 2023 Market Recap and Outlook
By Synergy Capital Solutions on April 6, 2023
The first quarter of 2023 feels like it contained years’ worth of news. We saw continued interest rate hikes, albeit at a slower pace. We also saw the second largest bank collapse in U.S. history (Silicon Valley Bank), along with several other bank failures within the U.S. and abroad.
Expectations for a slow growth or recessionary scenario remain high, and we are watching for slowing growth towards the end of the year. The banking issues renewed economic and market uncertainty though also changed future expectations from interest rate hikes to interest rate cuts. The Federal Reserve has been cautious with their most recent messaging but also acknowledged the possibility for continued rate hikes if warranted by the data.
Both stocks and bonds saw positive returns in the quarter due to several factors. Changing interest rate expectations, disinflation (slowing inflation), positive macro surprise momentum, soft landing expectations (potential to avoid a recession), a low bar for Q4 2022 earnings, an accelerated China reopening, and warmer than expected weather in Europe all contributed to the positive news.
Looking forward to the second quarter of 2023 we see still increased chances of slower economic growth, and we believe the likelihood for a recession this year or next has increased. Expected returns for long-term investors remains higher than when we entered 2022.
- We have maintained our strategic long-term allocations between stocks and bonds. We continue to actively review and adjust these holdings in portfolios.
- For clients taking periodic distributions we raised cash early in January 2022 given high equity valuations. We also trimmed from outperformers throughout last year to cover distributions. For clients adding funds we have been phasing in cash as the market fluctuates.
- We prefer long-term exposure to stocks over bonds or cash to protect investors from inflationary impacts to their spending plans. We continue to hold bonds or cash, where appropriate, to provide diversification for capital preservation and marketability purposes.
- The global economy will ebb and flow, and as part of the economic cycle we expect periods of negative growth. The long-term planning, our Monte Carlo simulations, and our portfolio discipline all account for these business cycle changes and unknown natural events such as COVID or the war in Ukraine.
- It is important to keep focus on the long-term financial plan and not let emotion cloud judgment in good times as well as bad times.
- We continue to monitor the economic environment and the impacts to our portfolio allocations and holdings. Consumer, corporate and financial system health lead us to believe the structural backbone of the economy remains solid, even in a recessionary scenario.
- We also continue to monitor fallout from the bank failures, but so far, the reports on economic activity have not shown a clear negative reaction to the banking issues. Deposit flows in banking also look to have stabilized over the past number of weeks.
- Stock Holdings
- Diversification remained important. For portfolios with individual stocks, we continued to look to quality companies with healthy balance sheets and strong cash flows.
- Stocks rose for the second straight quarter, with domestic stocks up ~5.5% year-to-date (YTD), international developed market stocks up ~7.3%, and emerging market stocks up ~3.0%.
- Growth stocks outperformed value stocks, rallying the most since Q2 2020 as expectations for interest rates adjusted.
- Stock valuations are fairly in line with long-term averages, though we expect continued volatility with the possibility of more downside until economic data bottoms.
- Investor sentiment has come up from lows but continues to be worse than the lows during the dot-com bubble and not far off the lows of the great financial crisis. Traditionally, this has been a contrarian indicator and could lead to better returns for long-term investors.
- We maintain foreign exposure at the lowest end of our targets.
- Bond Holdings
- We have had our bond holdings positioned with a much shorter duration, or exposure to interest rate change. This has helped our bond portfolios to outperform in the rising interest rate environment we have seen. Where possible, we have holdings with a ladder of maturities between 2024-2027. This typically represents ~70% of the bond allocation.
- The other ~30% of our exposure is market based, which will benefit if rates go down due to a recession and rate cuts.
- Domestic bonds are up ~2.5% YTD due to changing rate hike expectations.
- Bond yields are much more attractive than when we entered 2022. For example, 1- and 5-year US Treasury Bonds are currently at ~3-5% today whereas a year ago they were ~1-2.5%.
- The Federal Reserve may continue to raise interest rates until inflation slows, but markets are now expecting rate cuts later in the year.
- Cash
- Cash was positive contributor in 2022. Though money market yields have increased with interest rate hikes, cash has lagged so far in 2023 as both stock and bond markets recovered.
- We still do not believe cash is a suitable long-term investment given the impacts of near-term and long-term inflation.
- Maintaining a cash position for short-term spending and emergencies is an important part of a financial plan.
- In an abundance of caution, we have moved all client money market funds to government securities to avoid potential exposure to banking or other industry failures.
- We recommend that clients review their bank cash balances to ensure they are not over FDIC coverage limits. Should you be over coverage limits Synergy offers solutions to address protection or investment of the additional cash.
As always, we urge clients to keep a long-term mindset and believe that a diversified investment approach is best. We wish everyone a happy and healthy second quarter of 2023.
The “quilt” chart below illustrates the benefits of diversification. Over the long-term a diversified portfolio (white box) reduced volatility and provided solid returns. This also illustrates that cash (purple) is not a suitable long-term investment and highlights the importance of periodic rebalancing.
Source: Bloomberg, FactSet, MSCI, NAREIT, Russell, Standard & Poor’s, J.P. Morgan Asset Management. Large cap: S&P 500, Small cap: Russell 2000, EM Equity: MSCI EME, DM Equity: MSCI EAFE, Comdty: Bloomberg Commodity Index, High Yield: Bloomberg Global HY Index, Fixed Income: Bloomberg US Aggregate, REITs: NAREIT Equity REIT Index, Cash: Bloomberg 1-3m Treasury. The “Asset Allocation” portfolio assumes the following weights: 25% in the S&P 500, 10% in the Russell 2000, 15% in the MSCI EAFE, 5% in the MSCI EME, 25% in the Bloomberg US Aggregate, 5% in the Bloomberg 1-3m Treasury, 5% in the Bloomberg Global High Yield Index, 5% in the Bloomberg Commodity Index and 5% in the NAREIT Equity REIT Index. Balanced portfolio assumes annual rebalancing. Annualized (Ann.) return and volatility (Vol.) represents period from 12/31/2007 to 12/31/2022. Please see disclosure page at end for index definitions. All data represents total return for stated period. The “Asset Allocation” portfolio is for illustrative purposes only. Past performance is not indicative of future returns. Guide to the Markets – U.S. Data are as of March 31, 2023.
The chart below highlights lows in consumer sentiment and the corresponding 12-month investment opportunity. Warren Buffet once said to be “fearful when others are greedy, and greedy when others are fearful.” Though you can never call an exact bottom to the market, historically investing at consumer sentiment troughs has been very beneficial for investors who averaged +24.9% returns over the next 12-months vs. 3.5% when investing at consumer sentiment peaks.
Source: FactSet, Standard & Poor’s, University of Michigan, J.P. Morgan Asset Management. Peak is defined as the highest index value before a series of lower lows, while a trough is defined as the lowest index value before a series of higher highs. Subsequent 12-month S&P 500 returns are price returns only, which excludes dividends. Past performance is not a reliable indicator of current and future results. Guide to the Markets – U.S. Data are as of March 31, 2023.
The chart below illustrates US stock returns and the last four bear markets. Though markets drift higher over time we expect significant pullbacks periodically. The key is to stay invested through recovery.
Source: Compustat, FactSet, Federal Reserve, Refinitiv Datastream, Standard & Poor’s, J.P. Morgan Asset Management. Dividend yield is calculated as consensus estimates of dividends for the next 12 months, divided by most recent price, as provided by Compustat. Forward price-to-earnings ratio is a bottom-up calculation based on IBES estimates and FactSet estimates since January 2022. Returns are cumulative and based on S&P 500 Index price movement only, and do not include the reinvestment of dividends. Past performance is not indicative of future returns. Guide to the Markets – U.S. Data are as of March 31, 2023.
The chart on the left side below illustrates the return that you would stand to generate if it took 1-yr, 2-yrs, 3-yrs, 4-yrs, or 5-yrs for the S&P 500 to get back to its prior peak. Even if it takes five years, an investor stands to enjoy an annualized return of ~5% per year over that five-year period. The chart on the right side below illustrates that bear markets tend to be much shorter in duration than bull markets.
Source: FactSet, NBER, Robert Shiller, Standard & Poor’s, J.P. Morgan Asset Management. (Left) The current peak of 4,797 was observed on 1/3/2022. (Right) *A bear market is defined as a 20% or more decline from the previous market high. The related market return is the peak to trough return over the cycle. Bear and bull returns are price returns. **The bear market beginning in January 2022 is currently ongoing, with the “bear return” and duration for this period calculated from the January 2022 market peak through the current trough in October 2022. Averages for the bear market return and duration do not include figures from the current cycle. Guide to the Markets – U.S. Data are as of March 31, 2023.
Synergy Capital Solutions is a group of investment professionals registered with HighTower Securities, LLC, member FINRA and SIPC, and with HighTower Advisors, LLC, a registered investment advisor with the SEC. Securities are offered through HighTower Securities, LLC; advisory services are offered through HighTower Advisors, LLC. This is not an offer to buy or sell securities. No investment process is free of risk, and there is no guarantee that the investment process or the investment opportunities referenced herein will be profitable. Past performance is not indicative of current or future performance and is not a guarantee. The investment opportunities referenced herein may not be suitable for all investors. All data and information reference herein are from sources believed to be reliable. Any opinions, news, research, analyses, prices, or other information contained in this research is provided as general market commentary, it does not constitute investment advice. Synergy Capital Solutions and HighTower shall not in any way be liable for claims, and make no expressed or implied representations or warranties as to the accuracy or completeness of the data and other information, or for statements or errors contained in or omissions from the obtained data and information referenced herein. The data and information are provided as of the date referenced. Such data and information are subject to change without notice. This document was created for informational purposes only; the opinions expressed are solely those of Synergy Capital Solutions and do not represent those of HighTower Advisors, LLC, or any of its affiliates.
