Equity Overview

All sectors lost ground in December, with consumer stocks hurt the most and utilities the least.  Value stocks again outperformed growth stocks for the month.  For the full year, the shift in market leadership from growth to value stocks was unmistakable as value outperformed growth by 20%–its second-best performance in more than 40 years.

Markets continued volatile.  For the month, the S&P 500 moved by 1% or more on 9 of 22 trading days.  For the year, the S&P 500 moved by 5% or more in 8 of 12 months– and the NASDAQ Composite moved by 8% or more in 6 of 12 months.

Macro Overview

2022 was a challenging year for stocks.  Inflation spiked and in response the Fed abandoned its accommodative monetary policy and raised interest rates dramatically.  To get a sense of just how dramatically, at the start of 2022 expectations were that the Fed would raise rates by 0.75% over the year.  The actual increase for 2022 was 4.25%.  Predictably, domestic economic growth suffered.  At the same time, the Russian invasion of Ukraine upended the global economy.

The Fed efforts began to show results by year’s end, as inflation cooled from its peak of 9.1% to 6.5%.  But high interest rates generally inhibit corporate profits–particularly for technology stocks.  And lower profits translate to lower stock prices.  The silver lining is that a lot of air has come out of the market and prices are now more reasonable.  The forward 12-month price/earnings ratio for the S&P 500 at year’s end was 17.3, well below the 5-year average of 18.5.

Where do we go from here?  The worry is that high interest rates will kill growth and drive the economy into recession in 2023.  But the Fed projects a marginally positive GDP gain of 0.5% in 2023 which would mean significantly lower growth but not a recession.  Goldman Sachs, among others, finds that plausible, suggesting that “a long enough period of slower but still positive GDP growth may gradually help balance labor demand and supply and get control over prices.”  Other factors supporting growth include:   $550-billion injected into the economy through the Infrastructure Investment and Jobs Act; the decline of gas prices to pre-spike levels; significant improvements in the supply chain problems that have dogged the economy; and the apparent mitigation of Covid impacts, through vaccination and post-infection drug treatments.

In short, we agree with the sentiment Warren Buffet expressed several years ago: that the American economy has always rebounded from adversity and is likely to do so again.