Key Takeaways, Third Quarter 2023
By Ralph Goldsticker, CFA | Oct 2023
Expectations of continued tight monetary policy cooled investors’ optimism. Markets reacted negatively to a higher-for-longer interest rate forecast by the Fed. Tighter credit conditions are tempering economic activity, although inflation and fears of recession dwindled. Longer-term interest rates rose but the yield curve remains inverted.
After pausing in June, the Fed raised rates in July but then paused again in September. Bringing inflation down is the Fed’s top priority, and future actions will be data-dependent. The consensus expects one more rate hike this year. Strong economic news may result in the Fed being more aggressive.
Despite high interest rates and higher oil prices, the consensus anticipates a “soft landing.” While inflation continues to be above the Fed’s target, fears of runaway inflation have disappeared.
US and international stocks fell. Higher interest rates and fear of restrictive monetary policy trumped decent economic news. The broad US market lost 3.3%, and small caps fell 5.1%. Developed international stocks fell 4.1% and emerging markets lost 2.9%.
Year-to-date, the broad US stock market is still up 12.4%. Without the support of the Magnificent 7, small caps are up only 2.5%. The US stock market is up 38% since the end of 2021. Growth stocks are up 57%, and Value only 21%.
While Growth dominated in the first half of the year, Growth and Value had similar performance in the US during the quarter. That is despite the earnings of Growth stocks rising 7%, and Value stocks’ increasing by only 2%. Year-to-date, Growth stocks are up 25%, and Value only 2%.
Developed international stocks are up 7% year-to-date, while emerging markets are up only 2%.
With a hawkish Fed, interest rates on longer-term Treasuries rose significantly. Credit spreads were little changed.
The Fed Funds rate is at its highest level in more than 20 years.
3-month T-bills finished the quarter yielding 5.45%, up 15 bps during the quarter, and up 5.41% since the end of 2021. 10-Year Treasuries are yielding 4.57%, up 73 bps during the quarter.
Investment grade corporate bond spreads narrowed by 2 bps during the quarter. High Yield widened by 4 bps. IG spreads are 5 bps narrower than pre-pandemic (the end of February 2020), and High Yield 1.06%.
Bonds are now offering a real (after inflation) return. The real yield of 10-year TIPS rose to 2.24%. It was only 15 bps at the end of 2019, and the low was -1.16% at the end of July 2021.