4Q: 2023 Capital Markets Outlook

Following a strong first half of 2023, third quarter returns were more challenged across almost all asset classes. One outlier was high-yield debt, which often serves as a way to de-risk equity exposures when stocks are under pressure. Most year-to-date returns remain in positive territory, yet a closer look at equities during the third quarter reveals a story of different chapters.

Strong returns in July were driven by a continued decline in inflation and strong earnings reports from mega-caps, such as Netflix and Tesla. In August, investors became concerned over fears of hotter-than-expected economic growth and what that might mean for the future path of fed rate hikes. After some healing in late August, the markets segued into what is often the cruelest of months, September, when stocks sold off sharply as yields on 10-year US Treasury notes continued their advance.

The combination of a stronger-than-expected economy and inflation rates that remain above the Fed’s long-term target makes one thing clear: rate cuts on the part of the Fed will probably happen much later than what many believed at the beginning of this year.

Despite lower prices in areas such as food and durable goods, services prices have remained a bit stickier. And services – ranging from items such as car insurance to concert tickets – are a significant part of the economy.

This has led to conflicting signals as it pertains to the consumer. The combination of a tight labor market and inflation well off from its peak has boosted take-home pay. However, excess savings that had been accumulating during the COVID pandemic are now heading back down to their long-term trend.

That combined with credit card interest rates jumping over 40% in just the last two years may act as strong headwinds against consumer spending, which makes up the majority of many economies.