In this week’s market update: investors start to look ahead into 2024 with many questions about the future direction of the market as yet unanswered. 

The recent rally in the market has unwound the July to October correction, taking investors back to where they found themselves in the summer. It looks once again that the October 2022 low point was indeed some kind of a sustainable bottom for markets. The question now is what happens next year. 

And this is where things get difficult, not least because the current picture is different depending on how you look at things. As we have discussed here a few times, the headline market narrative has been dominated by the performance of a handful of tech stocks which performed badly in 2022 as interest rates rose faster than expected and then bounced back strongly as expectations rose of a peak in interest rates and a soft landing for the economy. 

Looking solely at that headline index view of the market, things look pretty good. The S&P 500 index stands at nearly 4,600, well above the 3,500 it fell to last October and within a whisker of the 4,800 reached at the start of 2022. 

Last week, a shortened one as the Thanksgiving holiday kept traders at home, saw a fourth consecutive week of gains for the US benchmark as investors started to bet on a peak in US interest rates. 

But this view of the market disguises a more directionless picture for the rest of the market. The equal weighted version of the S&P 500 has been drifting sideways for a couple of years now. It too fell in 2022 but it’s recovery so far this year has been less impressive. It is as if investors in the bulk of the US stock market are a lot less convinced that recession can be avoided next year and they are preparing their portfolios for a more difficult time ahead. 

This consolidation phase in the market has precedents. Just over the past decade or so there have been a couple of longish periods when the market moved sideways for a relatively long period, only to start rising again. It happened in 2015 and again in 2018. Because the market tends to go up around two-thirds of the time, the odds would suggest that a period of sideways drift is more likely than not to lead to a period of more positive returns. 

But the current market cycle is not that usual. It has been distorted by the pandemic and the fiscal spending and monetary easing that Covid prompted. Looking further back into time you can see a couple of similar moments when the market was driven by a handful of stocks. What happened next was different in both cases but also in some ways similar. Back in the 1970s the dominance of the so-called Nifty 50 stocks eventually broadened out as the inflation of that period delivered a difficult environment for all shares. Then at the end of the 1990s dot.com bubble the market again broadened out but in a different environment, as the bubble burst and recession followed. 

So, it is possible that the market could become less lop-sided next year but that is not the same as saying that most shares will pick up the baton and start to perform. To answer that we need to know whether we end up with a soft or hard landing for the economy.  

And on that there is little consensus. What does look likely is that central banks have now done with their tightening cycles. What is less clear is whether interest rates will fall very much from here, how quickly inflation will move back to target, or whether the sharp rise in rates so far has already done too much damage, pushing the economy into a sharp slowdown.  

This uncertainty is reflected in how the markets have performed around previous peaks in monetary tightening. The market has fallen as often as it has risen. It all comes down to whether or not there is a recession. The same is true of company earnings which sometimes rise after the peak in rates and sometimes fall.  

Much will depend on how quickly interest rates come down from here. And that of course depends on the future path of inflation. Interestingly the consensus has moderated recently. Investors now expect interest rates and bond yields to give back maybe 1.5 percentage points of the 5 or so that they have added in the past couple of years. That feels about right, given the persistence of a higher level of inflation than central banks’ targets. 

When it comes to how this will feed through into market and asset class performance, it feels like next year could be a reasonable one for shares if the soft-landing scenario looks likely. It could be a slightly better one for bonds, if interest rates do start to come down at some point in 2024. Cash will continue to look attractive with a risk-free return of 4-5% on offer. And other assets that offer an income, and which have already corrected in value, like commercial property could start to bounce back. 

One asset class that is hard to call is one that should benefit from falling interest rates and which is often seen as a safe haven in times of economic and financial uncertainty - gold. The precious metal has, however, this week hit a new six-month high as geo-political uncertainty has proved more influential than gold’s lack of income. The recent fall in the dollar has also given gold a boost as it reduces the cost for buyers in other currencies. It could be a good year for gold but some of the potential rally has already been priced in. 

The outlook for commodities is closely tied to the outlook for the economy. The oil price, which rallied sharply on the outbreak of the war in Israel and Gaza, has given up all its initial gains as it has looked less likely that the conflict would spread across the region and impact the supply of oil to world markets. This week it fell back below $80 a barrel, which eases pressure on global inflation and boosts the case for a continued recovery in company earnings. 

Looking ahead to this week, the main event is the COP28 summit being held this year in the United Arab Emirates. Already the meeting has created controversy with accusations that the hosts have used the event as a calling card to strike oil and gas deals, which would be a pretty stunning irony at the premier environmental get-together of the year. 

From an investment perspective, the summit also occurs against a difficult backdrop for ESG-focused investors who operate in a suspicious environment in which investors are worried about so-called greenwashing (dressing up investments as something they are not to benefit from a desire to do the right thing and use investments to promote a more sustainable future). Performance has also been an issue with war in Ukraine, in particular, helping the stock market performance of unsustainable energy stocks at the same time as the tech stocks that had a heavy weighting in many ESG focused portfolios fell last year. Finally, a blizzard of environmental regulation has made investing in this area a mine-field. What is arguably the most important issue for the planet has become a very difficult part of the market to navigate for investors. 

There’s plenty of economic data this week , including quarterly GDP data for Germany and the US and inflation figures for the eurozone. At the end of the week there’s a string of purchasing managers index data across the G7. 

Earnings are slowing down as we move towards Christmas with a handful of results from companies including EasyJet and Ikea. With the Black Friday weekend kicking off the pre-Christmas spending period, retailers will be in focus for the rest of the year.