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diciembre 12, 2023

Equity Market Commentary - December 2023

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Takeaways & Key Expectations

Equity Market Commentary - December 2023

Equity Market Commentary - December 2023

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diciembre 12, 2023

 
 

A few lessons from 2023.

If you are receiving this directly, thank you. That means you have invested in either our SMAs or mutual funds.

  1. The S&P 500 has produced a positive return in 67 of the past 93 years.1 That implies a bearish view on the S&P has had only a 28% success rate, with 2022 being one of those years.  Kudos to the bears.


    However, over those 93 years, the market produced two consecutive down years 11 times.2 That means being bearish after a negative year for the S&P 500 has only produced a 12% success rate.

    Bears usually sound more intelligent on the surface, but in reality, the market has gone up most of the time.  Simply put, I/we believe an optimistic bias is just plain smarter, especially after a down year.

  2. In early October 2022, the S&P 500 breached the down -25% level from its previous January 2022 peak.  We sent our readers a chart showing the historical 1-year return for the times the S&P had previously hit that painful -25% mark.  Since 1960, this had happened 8 times previously.3


    Had you invested in the S&P once it breached that -25% decline every one of these 8 times, your subsequent return over the next 1-year averaged +22%.4 That’s more than double the historical annual returns for equities. Buying during these times when there was “blood on Wall Street” has proven to be an excellent strategy.

    Of course, in October 2022, nobody knew what the 1-year return from the most recent -25% decline would be.

    Now we do. 

    Over the next 12 months, off the 2022 -25% decline, the S&P 500 returned +20%.5  Pretty darn close to what has happened in the past, I would say.

    This is yet another reminder to become more bullish when stocks swoon, not more bearish.

  3. There are two types of earnings estimates.  “Top-down” estimates are formulated by strategists and their macro views. “Bottom-up” estimates reflect the consensus views of all the individual stock analysts and their projected earnings for the companies they follow.


    We like to follow the bottom-up numbers.

    Here’s why:

    Companies “guide” the analysts to estimates based on what they see in their businesses. If business strengthens, companies might “suggest” analysts increase their numbers, and the reverse if companies see weakness.

    The bearish top-down narrative coming into 2023 was that the S&P 500 was going to earn $190-$200.6  A big down year to follow the $220 of earnings in 2022.

    Yet companies never confirmed this thesis. Bottom-up estimates have remained solidly steady in the $220-$230 range all year.7 Overall, companies never supported the weakening economy scenario coming out of Wall Street.

    Listen to what companies say.

  4. Speaking of earnings, be dubious when someone declares a stock expensive or cheap based on some singular valuation methodology such as “P/E”.  The ”E” is an estimate of future earnings.  Yet, whose estimate is it?  Does that “expert” have a track record of predicting the “E” accurately?


    Here is an example of what I mean. 

    We have heard all year that the magnificent 7 stocks are “expensive” relative to the rest of the market.  According to whom?

    Here is the reality:

    Since the start of the year, the analysts who follow those 7 companies have collectively been forced to raise their earnings projections for the year by nearly 15%.8 In essence, the “E” estimate for the 7 companies has consistently been way too low. Hence, the P/Es have looked higher than reality. 

    This is not an endorsement of only those 7 stocks.  It’s a reminder that stock prices embed future expectations, and if those expectations are raised, stocks tend to go up.  If expectations are lowered, stocks usually go down.  That is why the magnificent 7 have surprised so many this year. 

    Do not take somebody’s estimates as gospel.  Watch the trends.

  5. As Bloomberg reported recently, investors poured $60 billion into higher dividend/defensive-oriented equity strategies at the beginning of the year, given the high level of skepticism that stocks would go up in 2023.9


    They became the hot product.

    In my opinion, whatever is the hot product rarely works the next 12 months.  In 2021 uber-growth strategies became the rage… and a complete bust in 2022.  Does anyone remember when MLPs were the rage?  And then oil prices collapsed…

    As Bloomberg goes on to point out, dividend products have performed very poorly this year as rates have risen.

    (By the way, the hot product this year?  Money market funds.  More on that to come in our 2024 Outlook.)

  6. Speaking of oil, it is a commodity. Whenever the oil stocks have a big run, as they did in 2022, the bulls argue that there is a “secular change” occurring in the industry.  “This time is different.”  I have heard this so many times in my career.  However, as we saw yet again in 2023, when oil prices are high, supply mysteriously appears and demand contracts.  Thereby causing oil prices to regress back down and energy stocks to perform poorly.


    Energy was the best performing sector in 2022, and it has been one of the worst this year.10

    Never get too bullish or too bearish on energy stocks.

  7. Finally, a painful lesson:


    A bank’s solvency is not always determined by the quality of its assets relative to its liabilities.  Solvency is ultimately determined by the confidence of its depositors. 

    SVB Financial invested almost exclusively in AAA US Treasuries/Government mortgages.  Yet through social media, a few well known depositors set off a panic untethered, in our opinion,  to the reality of SVB Financial’s asset portfolio. 

    The balance sheet is not the sole determinant of a company’s viability. (This is a scar I will carry for a long time.)

While it’s always more fun to look ahead, it’s important to take a step back and review what we learned from the year prior to turning the page.  Both the good and the painful lessons.

After such a surprisingly fruitful year in the equity market for 2023, we hope everyone has a chance to enjoy the holidays with their families and friends.

As always, a sincere thank you for your investment in Applied Equity Team’s strategies.  Without that, our team would not exist.

Please listen to our 2024 market outlook webcast on Wednesday, January 17th at 11am EST. The “elves” of AEA are working up plenty of new (and hopefully provocative) charts and tables.

 
 

Andrew

 
 

1 Bloomberg.
2 Bloomberg.
3 Bloomberg.
4 Bloomberg.
5 Bloomberg.
6 Factset. January 2023.
7 Factset
8 The Daily Shot. November 2023.
9 Bloomberg. November 2023.
10 Factset.

 
andrew.slimmon
Head of Applied Equity Advisors Team
Applied Equity Advisors Team
 
 
 
 
 
 
 

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