Let’s See How Far We’ve Come
As we close out the year 2023 and anticipate the arrival of 2024, it seems appropriate to look back and then look forward in anticipation of the New Year to come. Currently, stocks are yet again experiencing a textbook “Santa Claus Rally,” taking the US stock market within a whisper of all-time highs.
The last time stock markets were at current levels, we were closing out the year 2021. Stocks had rallied aggressively into the close of 2021 and in January 2022; propelled by profligate congressional spending and Federal Reserve money printing.
This led to sky high price levels in homes, stocks, and all matter of goods and services with the COVID-19 economic shutdown providing justification for the policies. Inflation was rampant. Below is a picture of stocks since the end of 2021:
As you can see, stocks have done nothing in aggregate since the beginning of 2022. The 2023 rally has merely recaptured the losses of 2022.As the market has been rallying, real changes have been occurring within the US Economy in response to inflation-fighting Fed policies. Here’s a look at some of the most important ones:
- Interest Rates
- Fed Balance Sheet
- Money Supply
- Producer Prices
- Consumer Prices
The two charts above comprise the Fed’s two primary policy levers: interest rates in the top panel and balance sheet assets in the bottom panel. As can be seen, the Fed’s persistence in its inflation fighting policies is evident since April of 2022. The only exception is the momentary spike in balance sheet assets as the Fed orchestrated its rescue of Silicon Valley and Signature Banks in March of 2023.
These two restrictive mechanisms above led to material changes in the inflationary pressures in the economy. The panel below depicts the one-year rate of change in three important data series: M2 money supply, Producer Prices, and Consumer Prices. One can see the correlation between changing money supply and lagged changes in the two inflationary measures.
There is little doubt in our mind that money supply is the primary cause of both rising and falling inflation within the economy. If so, then our conclusion last summer that inflation would be soon approaching Fed target and only a function of the passage of time seems likely. We think the aggregate price level will soon be hitting the Fed’s long-term inflationary target.
While the market has been “ingesting” the frothy valuation levels we witnessed two years ago by allowing stocks to earn their way into formerly stratospheric valuation levels, stocks are nonetheless still somewhat expensive as evidenced by the Shiller CAPE (Cyclically Adjusted Price to Earnings) Ratio below.
The takeaway? We are appreciative that stocks are not as expensive as they were two years ago. But, If stocks are going to move higher, we believe it is going to require growing earnings. Any stock market gains due to valuation expansion rather than higher earnings growth should be looked upon with a dubious eye. With these things in mind, we turn our attention to 2024 and beyond.
Below is a look at consensus aggregated, bottom-up, analyst earnings and revenue growth forecasts for 2024. If they’re right, then we believe stocks can move higher by up to 10% in 2024.
Thus, it all comes down to one thing for 2024: will the effect of the Fed’s tight rate and balance sheet policies tip the economy into recession or will the economy experience a rare and miraculous “soft landing.” At this stage, the betting as measured by stock market levels and analyst forecasts seems to forecast it will be a soft landing.
As we celebrate the close of one year and the opening of a new one, we wish you a joyous holiday and a very Happy New Year! See you in 2024!
Advisory services offered through WealthPlan Group, a DBA name for WealthPlan Investment Management, a registered investment adviser. WealthPlan Group, LLC is the holding company for WealthPlan Partners LLC and WealthPlan Investment Management LLC. WealthPlan Group, LLC is not a registered investment adviser.
The S&P 500 Index, or Standard & Poor’s 500 Index, is a market-capitalization-weighted index of 500 leading publicly traded companies in the U.S. The S&P 500 index is regarded as one of the best gauges of prominent American equities’ performance, and by extension, that of the stock market overall.
Indices are unmanaged. An investor cannot invest directly in an index. They are shown for illustrative purposes only and do not represent the performance of any specific investment.
The CAPE Ratio, or the Cyclically Adjusted Price to Earnings ratio, also known as the Shiller P/E ratio, is a valuation measure typically applied to broad equity markets, especially for assessing whether a market is over or under-valued. It is calculated by dividing the current market price of a stock or index by the average inflation-adjusted earnings over the previous 10 years. The CAPE Ratio is a valuable tool for investors seeking to understand market valuation in a historical context.