Market and Economic Cycles Moving to the Next Stage

Following a strong start to 2023, CIO Larry Adam and his team share their outlook for the remainder of the year.

To read the full article, see the Investment Strategy Quarterly publication linked below.

This year marks the 110th edition of the Tour de France, the most prestigious bicycle race in the world. And like the markets, the Tour is always challenging – and evolving. The three-week, grueling 2,200+ mile route changes every year and, surprisingly, starts in different countries – this year in Spain versus the UK, the Netherlands, Germany, Belgium, and Denmark the previous five years! The point is, just like the Tour, economic and market cycles have different starting points, and no two routes are alike.

Just look at the economic course we are currently on: It began with a historic pandemic and has since snaked through near-record inflation, a war, assorted political tensions, and unprecedented fiscal and monetary policy changes. For investors, the trip has been as exhausting as climbing the iconic Col du Tourmalet on a brutal mountain stage this year. But, as we move to the next stage of our investment journey, the goal for cyclists and investors is the same: Be ready, adjust when necessary, and maintain a long-term perspective.

The U.S. economy continues to pedal forward, defying predictions it would skid into a recession, thanks in part to the effects of unparalleled fiscal (i.e., the approximately $5 trillion pandemic-related government stimulus) and monetary stimulus (i.e., record-low interest rates and Federal Reserve (Fed) bond-buying program). Many cheered the robust labor markets, strong consumer spending, and strong wage gains that resulted. Now we will see how the economy performs without artificial stimulus and on its own merits. Like Tour officials clamping down on rule breakers, the Fed is cracking down on inflation, tightening interest rates by 500 basis points (5%) over the last 15 months, boosting borrowing costs on everything from credit cards to autos. Today, with mountainous interest expenses and excess consumer savings evaporating quickly, consumers can no longer coast. Understandably buyers are showing signs of fatigue. This, combined with credit tightening and job growth slowing, suggests the economy will slide into a mild recession beginning in the fourth quarter. Despite the slowdown, this year’s fast start keeps overall 2023 GDP growth positive at 1.3%. But we do expect it to decelerate to between 0.5–0.7% in 2024.

Every cyclist’s nightmare is a chain-reaction crash, and the Fed is trying to avoid a pile-up after its interest rate hikes. Banking turmoil in March may have been the Fed’s flamme rouge: The red banner that tells cyclists they’re close to the finish line. Restrictive rates seem to be doing their job – putting the brakes on the economy. There is no question that the economic data (slowing inflation, rising jobless claims, and below-trend growth) are moving in the direction the Fed wants, it’s just not happening at the pace it wants. The big question is how much patience the Fed must have to allow the disinflationary trend to continue before tightening further. Ultimately, we believe the Fed is in the latter stages, if not near the end, of its tightening cycle. We expect the federal funds rate to end the year at 5.50%. However, as the economy downshifts in 2024 and the unemployment rate nears 5%, expect the Fed to cut the Fed funds rate to 4.0%.