To say the least, 2023 has been a turbulent year for the world and global markets. With a war in the middle east, the fastest central banks tightening in decades, a regional banking sector crisis at the beginning of 2023, and heightened global geopolitical tensions, the year was difficult to navigate for investors. Still, despite most investors starting the year fearing a global recession, most equity indices delivered good returns across the board.
The performance was mainly driven by two main catalysts:
1) The fast adoption of ChatGPT, and the potential benefits of generative Artificial Intelligence (AI) for the technology sector.
2) A global cooldown of inflationary pressures toward the end of the year and a U-turn signal in December from the US Federal Reserve on its policy rate.
Looking under the hood, we saw a big dispersion within the S&P and global sectors’ performances as Information Technology and Communication Services gained 56% and 54% respectively while Energy and Utilities declined 5% and 10%. Looking at attribution, the Magnificent Seven had an average return of 104% and accounted for 62% of the index performance.
The global economy was also much more resilient than expected as trends in corporate margins were positive, consumption was resilient, and supply side inflation eased in most sectors. Indicators for both headline and core inflation have evidently reached their highest peaks, and unemployment rates have begun to rise slightly as labor market imbalances have generally improved. However, labor markets still exhibit tight conditions, and core services inflation (inflation in the services sectors) continues to be unsustainably high.
Our positioning at the end of the year reflects our appreciation of the uncertainty surrounding the global economic landscape in 2024. While markets seem to be pricing in a soft landing with low inflation, lower rates and sustained growth, we believe that it might be too early to declare victory. By being overweight in more resilient sectors, our portfolios should be able to perform well in both hard and soft-landing scenarios. Looking beyond tactical sector allocation, our stock selections within these sectors also represent high potential idiosyncratic growth.
Going into the new year, we see a few trends and risks that could move the markets:
1) “AI everything” pushed a lot of investors to bet on any company that could place an AI label in its investor presentation. We think this fear of missing out phase is coming to an end as winners and losers will start to emerge in multiple sectors.
2) The US election uncertainty can have a negative impact on climate related policies and influence green energy and transportation electrification spendings.
3) Service inflation can be stickier than expected and the Federal Reserve might not be able to cut as early as the market expects.
4) Supply chain issues might be coming back with the crisis in the Red Sea already impacting some EV (Electric Vehicle) manufacturers. Equity markets could still provide positive returns in 2024, but the outperformance of the IT and Communication Services sectors, and the dispersion between sectors is unlikely to reoccur. We foresee returns from equity markets to be much more moderate in 2024.
