Week in the markets: 2024 starts on the back foot

Well, it was fun while it lasted. A Santa Rally rounded off a good year for investors, with the S&P 500 ending the year more than 25% higher than it started. But 2024 has got off to a more sober start as investors wonder whether they got a bit ‘over their skis’ with hopes for a rapid fall in interest rates.

Back to earth

The S&P 500 started the New Year with a 1.5% fall in the holiday-shortened first week of the year. That’s bad news for believers in the so-called January Effect, which argues that trading in the first few days of January sets the tone for the whole year. There’s some statistical evidence for this, although it’s probably not an adage on which any sensible investor would want to build a long-term investment strategy.

It’s hardly surprising that markets should have paused for breath at the start of 2024. The last two months of 2023 enjoyed a remarkable nine-week run of consecutive market gains. Investors were due a breather and stronger than expected jobs data gave them the excuse to take a bit of risk off the table.

What’s clear, though, is that the story that dominated markets during the past two years - inflation and interest rates - remains the main event as far as investors are concerned. The rally in November and December was premised on hopes for a rapid reversal of monetary policy this year but investors may have got ahead of themselves, pricing in six quarter point cuts from the Fed in 2024, twice as many as the central bank itself forecasts.

Not just shares, bonds too

It was not just the equity market that enjoyed a bumper bounce at the end of last year. Bonds too rallied hard on interest rate hopes and they too sobered up a bit in the first week of 2024. The yield on the 10-year Treasury bond, which had fallen from 5% in October to 3.8% by year end, moved back above 4% as investors recalibrated their most optimistic hopes for interest policy this year.

Although the short-term outlook for inflation and rates is undoubtedly positive, a big election year promises a focus on fiscal policy too. Governments are unlikely to rein in their spending as they look to please voters in countries accounting for 40% of the global population. That argues for higher for longer interest rates in future as investors demand more compensation for supporting politicians’ largesse.

Meanwhile, back in the markets…

Politics may well grab the headlines this year (alongside sport - we’ve got a Euros football tournament and the Paris Olympics to look forward to) but for investors it’s the nitty gritty of earnings and valuations that will continue to matter more. 

Fourth quarter earnings season kicks off this week with the usual flurry of financial sector numbers form the likes of Citigroup, Blackrock, Bank of America and JP Morgan. Expect a focus on bad loans as we head towards a possible recession on both sides of the Atlantic. We put a 60% probability against a mild recession, with just 20% for the next most likely outcome - a soft landing with lower interest rates and a resilient economy.

Here in the UK, as usual at this time of year, it’s all about retail sector trading statements this week. M&S (a big winner last year), Sainsbury and Tesco will all be bringing investors up to speed on how their festive seasons turned out.

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