As you know, we avoid making predictions about where the stock and bond markets are headed. There are simply too many factors that impact the markets – economic, political, atmospheric too – over the short and long terms.
On the other end of the prediction spectrum, a Morgan Stanley analyst recently made the sheepish admission that “we were wrong. 2023 has been a story of higher valuations than we expected amid falling inflation and cost cutting” (The Street, 7/24/23).
The article goes on to say that the “admission is somewhat surprising given he repeatedly warned this year that the stock market rally would reverse. For example, he told Bloomberg in May, ‘We would characterize this as the bear market is continuing … The fundamental case does not support where stocks are trading today.’
“Those comments were made days before the S&P 500 broke out to a new year-to-date high, rallying by over 8%. The mea culpa hasn’t changed [Morgan Stanley’s] view, though. He remains ‘pessimistic on 2023 earnings.’”
He might be right about earnings, and that stock prices will decline as a result. But he also might be wrong again, multiple times. Why bother?
It’s not just inherently unpredictable factors – like wars, political coups, fires, and earthquakes – that make prediction so difficult, if not impossible. Even when we know something has happened, the markets can react in unexpected ways.
A recent example involves the question of when good economic news translates into good or bad news for the markets.
Jenna Smialek and Ben Casselman wrote about this in The New York Times in an article entitled “Maybe, Just Maybe, Good News Is Good”:
“It had been the mantra in economic circles ever since inflation took off in early 2021. A strong job market and rapid consumer spending risked fueling further price increases and evoking a more aggressive response from the Federal Reserve. So every positive report was widely interpreted as a negative development.
“But suddenly, good news is starting to feel good again … Recent data have been encouraging, suggesting that consumers remain ready to spend and employers ready to hire at the same time as price increases for used cars, gas, groceries, and a range of other products and services slow or stop altogether – a recipe for a gentle cool down.
“Economists and investors are no longer rooting for bad news, but they aren’t precisely rooting for good news either. What they are really rooting for is normalization, for signs that the economy is moving past pandemic disruptions and returning to something that looks more like the pre-pandemic economy, when the labor market was strong and inflation was low …
“One reason economists have become more optimistic in recent months is that they see signs that the supply side of the supply-demand equation has improved. Supply chains have returned mostly to normal. Business investment, especially factory construction, has boomed. The labor force is growing thanks to both increased immigration and the return of workers who were sidelined during the pandemic.
“Increased supply – of workers and the goods and services they produce – is helpful because it means the economy can come back into balance without the Fed having to do as much to reduce demand. If there are more workers, companies can keep hiring without raising wages. If more cars are available, dealers can sell more without raising prices. The economy can grow faster without causing inflation.”
This story appeared just after the S&P 500 index hit 4,589 on July 31, the highest level since the all-time high of over 4,800 in December 2021. The index was up 19.5% for the year, recovering much of the more than 20% declines from 2022.
But since August 1, the stock market has declined significantly, down about 4.5% through August 16. What changed?
On the bad news side, “Fitch ratings lowered the credit rating of the United States one notch to AA+ from a pristine AAA. The firm, citing a ‘deterioration in governance,’ along with America’s mounting debt load, suggested that it could be a long time before that decision was reversed.
“The move – like the drop to AA+ in 2011 by S&P Global, which has kept its US rating there – followed partisan brinkmanship over America’s debt ceiling, which caps how much money the government can borrow” (The New York Times, 8/2/23).
But then came further good news about inflation: “Fresh inflation data offered the latest evidence that price increases were meaningfully cooling, good news for consumers and policymakers alike more than a year into the Federal Reserve’s campaign to slow the economy and wrestle cost increases back under control.
“The ‘core’ inflation index, which strips out volatile food and energy prices … picked up by 4.7% from last July, down from 4.8% in June.
“The upshot was that inflation continues to show signs of seriously receding after two years of rapid price increases that have bedeviled policymakers and burdened shoppers – and the details of the July report offered positive hints for the future. Rent prices have been moderating, a trend that is expected to persist in coming months and that should help to weigh down inflation overall. An index that tracks services prices outside of housing is picking up only slowly” (The New York Times, 8/11/23).
It’s also possible that many market participants simply thought that stocks had risen too far, too fast, and started taking some of the profits earned earlier in the year.
Whatever the reasons for the market rise through the first seven months of the year, and the decline over the past three weeks, the main point is that we don’t know what will happen at any time in the future. So the attempt to interpret events as good or bad seems futile.
Instead, as we have emphasized in the past, Park Piedmont continues to advocate for clients to develop an allocation between stocks and bonds that’s appropriate for their specific, long-term situation. We recommend making significant alterations to that allocation only based on major life changes, not short-term price changes or news reports, whether they appear good or bad.