Paving the way for a market pivot

DEWITT, Mich. - Dec. 12, 2023 - PRLog -- Key takeaways:

• The Fed's next move will likely be a rate cut instead of a hike, but the timing of when that might happen could be a source of volatility.
• The labor market remains strong but is gradually loosening, which, together with better inflation trends, supports a pivot to less restrictive central-bank policy in 2024.
• Our base-case scenario calls for three to four rate cuts in the back half of 2024, which should help bonds recover.
• Interest-rate stability could be the catalyst for a rotation from this year's equity winners to the laggards. We think the narrow market leadership and wide valuation gaps have created an opportunity in areas of the market that have been left behind.

With a few weeks left till the end of 2023, markets remain on track for a strong finish. Stocks are hovering near their highs for the year, and bonds are rebounding nicely after a tough three-year stretch. The overarching forces supporting balanced portfolio gains this year have been the easing in inflation pressures, a resilient economy that has not only avoided a recession but has grown at an above-average pace, and enthusiasm around artificial intelligence (AI).

As the torch passes to 2024, investors are counting on a successful Fed pivot away from restrictive policy to a more neutral stance to sustain and build on this year's gains. We think the Fed's next move will be a rate cut instead of a hike, but the timing of when that might happen could be a source of volatility. Nonetheless, we see the potential end of tightening and the start of an easing cycle as a catalyst for further gains in bond prices and a broadening in equity-market leadership.  We offer two reasons why we expect a gradual shift in Fed policy ahead.

1) The labor market is gently cooling

• The spotlight was on the job market last week, with the data providing mixed takeaways but also not reversing the cooling trend that has emerged, which is likely welcomed by the Fed. The strong labor market has given consumers the confidence to spend in the face of high inflation and rising borrowing costs.

2) Growth will likely slow from above- to below-trend in the quarters ahead

• While buffers remain, the consumer is starting to show some fatigue as the excess savings are being depleted, credit is tight, and effective rates are moving slowly higher, catching up with market rates. Moreover, the boost from elevated government spending is poised to reverse next year.