Weekly Update

2023 Outlook – Part 1

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Published December 9, 2022


The 2023 market outlooks are beginning to flow. Below is an overview of next year possibilities put together by Delta.

“Since the Great Financial Crisis (GFC, 2008-09), the stock market trended higher on low interest rates, double digit GDP growth in China, and robust non-cyclical growth from the major technology companies. What would happen if the Fed Funds rate jumped from zero to 4% in a single year? What would happen if China’s GDP growth became hobbled by non-stop Covid lockdowns? What would happen if big-cap technology stocks stopped offering consistent earnings growth and became the worst performing major segment of the U.S. stock market?
Now we know. The NASDAQ 100 is down by 25.9%, the S&P 500 is down by 13.2% and the Dow Jones Industrial Average is down by 3.1% through November. Considering that the above questions are only a subset of questions that could be expanded to include what happens if Russian invades Ukraine, inflation spikes from below 2% to 12%, and the U.S. economy has to work through the distortions of a 42% increase in the money supply and massive lockdown fiscal stimulus, the above results seem almost mild.

Below is a chart of the intra-year and calendar year returns of the S&P 500. Although it has not been declared an official recession year, it certainly looks and acts like one. The intra-year maximum drawdown of the S&P 500 is 25% and the market will likely experience a double-digit negative calendar year return. 2022 also experienced two sequential quarters of negative GDP growth, an inverted yield curve and well over six months of negative readings on the Leading Economic Index (LEI).

S&P 500 intra-year and calendar year returns

The poor stock market performance was accompanied by the worst year on record in bonds. Investment grade U.S. corporate bonds are down by about 12% with an intra-year drawdown of 17%. This is by far the worst single-year loss on record and the first time the bond market has experienced back-to-back losses. 1994 was the second worst year on record with the loss being less than 3%.

Bond annual returns and intra-year declines

It is likely that the unwinding of the pandemic distortions (high inflation, interest rates and flood of money being reversed) has not reached its end. Delta’s two primary recession indicators are the inversion of the U.S. treasury yield curve and the six-month moving average of the Leading Economic Index (LEI) turning negative. Both indicators signal impending recession.

Yield curves inverted
Leading economic index % change monthly


Corporate earnings for the S&P 500 for 2022 are expected to come in around $221, a 5.2% increase from 2021. This is not too far off from where analysts thought they would be a year ago. However, earnings estimates are below the peak expectations of $231 we saw during the April – June period. The 2023 consensus earnings expectation for the S&P 500 has been revised down from roughly $252 to about $232 today. In a recession, corporate earnings are likely to be revised lower with some investment banks predicting $200 in a recession scenario.

S&P 500 2022 and 2023 earnings expectations

If the Federal Reserve had to sum up its interest rate policy going into 2023, it would be “the beatings will continue until morale improves.” The Fed’s “dot plot” shows the Fed Funds rate reaches at least 4.6% and the debt markets are currently projecting a peak Fed Funds rate of 5.0-5.25% in the first half of next year. Higher rates will continue to place downward pressure on earnings (slower economic growth) and Price/Earnings (P/E) multiples.

Because of the declining earnings estimates, rising interest rates and a higher probability of recession, the outlook for 2023 is mixed. Many market strategists see the stock market depreciating meaningfully in the first half of next year. If negative forecasts are realized, it is possible that the U.S. stock market retests its 2022 lows and potentially goes lower.

But at some point in 2023, Fed rate hikes will end and inflation will be discernably trending lower. As we look further forward, beyond 2023, the probability is high that the S&P 500 will eventually reach earnings of $250 and higher. For the record, the S&P 500 consensus earnings estimate for 2023 when we began 2022 was roughly $245.

The Federal Reserve is saying that their long-term (years out) Fed Funds target rate is roughly 2.5%. The combination of lower rates and higher earnings should cause the S&P 500 to return to its old highs, up roughly 20%. Other potential positives to look out for in 2023 could be a declining dollar (especially beneficial to technology stocks with a disproportionate international sales) and a reopening of the China economy. To be clear, the path to new highs may be through some conviction-testing lows.

Three Reasons for Optimism

Recession, higher interest rates and declining earnings fundamentally make it difficult to imagine a strong bull case for 2023. But there are technical indicators that give us reason to be optimistic. Three key technical reasons for optimism are 1) historic stock market performance after a negative mid-term election year, 2) very low consumer sentiment and 3) market performance in advance of a Fed pivot.

1. Performance after a negative mid-term election year

S&P 400 performance year after negative midterm year (1950 - present)

2. Performance after a consumer sentiment low

Consumer confidence and the stock market

3. Performance around the time the Fed pivots

Volcker fed pivot and S&P 500

The last time inflation was running at a double-digit annual pace in the late 1970s and early 1980s, Paul Volcker was the Chairman of the Federal Reserve. To combat persistently high inflation, Volcker made clear that he would raise rates as far as necessary even if it drove the economy into recession. From December 1980 to the trough in August,1982, the S&P 500 declined by 27%. The S&P 500 had recovered all of its losses in four months ending one month after Volcker said he was considering ending his “war on inflation.” This helps explain why the S&P 500 is so quick to respond to the idea of a Fed Pivot.”


Market Update

Stocks jumped the prior week on Fed Chair Powell’s comments that the Fed might be slowing down. This week, traders looked to another inflation report to provide the Fed further ammunition to consider halting their interest rate hikes. Strong economic reports Monday failed to affirm the slowing Fed thesis, however, leading to a -1.8% selloff in stocks. Easing of Covid restrictions in China failed to reverse further pressure on stocks Tuesday with more chatter from CEOs on a possible 2023 recession keeping buyers cautious. Stocks gave back another -1.4% Tuesday. Stocks posted a fifth straight day of losses Wednesday, albeit a slim -0.2% dip. Over the five days, stocks have given back ALL of the Powell-driven boost of November 30th. Stocks bounced back Thursday with a +0.8% advance amid strength in semiconductors. The fortunes for the highly influential semi group have changed dramatically over the past year, from the extreme supply shortfall of last year to, now, fears of weakening demand and bulging inventories. The groups has shown strength recently though. The report on Producer Prices came in hotter than expected Friday, dampening investor hopes for another favorable inflation report. Stocks slid -0.7% Friday with the losses coming in the final hour of trade.

Stocks fell -3.35% for the week, giving back the entirety of the prior week’s advance. Stocks struggled to hold above the 4000 level on the S&P 500. The Nasdaq 100 (QQQ) tumbled -3.59% while small cap stocks (IWM) slid -5.01% as energy stocks tumbled on falling oil prices.

Warm wishes and until next week.