Annual Market Review 2023 "2023 was dominated by inflation and the Federal Reserve" January 10, 2024

Annual Market Review 2023

Overview

The year 2023 was dominated by inflation and the Federal Reserve's restrictive policy in response to it.  The year began with inflation at about 6.5%, with the Fed raising interest rates despite fears of rising unemployment and an economic recession.  But while the focus remained on inflation, several other events occurred during the year, including the a political battle over the debt ceiling and a potential government shutdown; the collapse of several banks; labor strikes; and unrest in the Middle East.

In March 2022, the Federal Reserve began to aggressively raise interest rates as part of a restrictive policy aimed at reining in escalating inflation. In 2023, there were signs that the Fed's monetary policy was paying off. Price growth slowed, apparently without triggering a recession.

The personal consumption expenditures price index was 5.4% in January, while core prices, excluding food and energy, were 4.7%.  Other than a moderate surge during the summer, the PCE price index trended lower, with the last reading at 2.6% (core prices were 3.2%) for the 12 months ended in November.

While inflation has turned lower, it remained above the Fed's 2.0% target. However, the progress in moderating price pressures allowed the Fed to refrain from further interest rate hikes since July.  In addition, recent Fed projections indicate rate cuts of 75.0 basis points in 2024, possibly in the form of three 25.0-basis point rate reductions, although changes in the economy or inflation could prompt the Fed to alter its course of action moving forward.

Raising interest rates may have helped drive down inflation, but it also had the unfortunate effect of cooling the housing market. Rising interest rates also carried over to mortgage rates, which vaulted higher, peaking at about 8.0% in October, more than double the mortgage rate during the pandemic and well above pre-pandemic levels.  Higher mortgage rates translated to fewer buyers.  However, home prices climbed higher year over year, primarily due to diminishing inventory.  Fortunately, mortgage rates have fallen by more than a full point over the last few months of the year, settling at about 6.61% at the end of December.

In a span of a few weeks in March, three small-to-mid size U.S. banks failed, which prompted investors to lose confidence in the banking industry and sent bank stocks plummeting amid fears that more bank failures could follow. Losses on cryptocurrency investments, falling real estate investments, downturns in bond portfolios, and a run on bank deposits triggered the banking collapse. A potential escalation was likely averted by the Federal Reserve, which provided emergency loans to distressed banks, while ensuring that all deposits would be honored.

As if interest rate hikes and bank failures weren't enough to digest, investors spent the first half of the year dissecting rhetoric over the debt ceiling crisis. In mid-January, the United States hit its debt ceiling, which prompted a political back-and-forth until the beginning of June, when an agreement was reached.  The result was new legislation, the Fiscal Responsibility Act of 2023, which effectively raised the debt ceiling but capped federal government spending.

The U.S. economy proved to be resilient in 2023. Gross domestic product expanded during each of the first three quarters of the year, increasing 2.2% in the first quarter, 2.1% in the second quarter, and 4.9% in the third quarter. Consumer spending, the linchpin of the economy, also showed strength, climbing 3.1% in the third quarter. Consumers spent on both goods and services throughout the year.

The employment sector, expected by some to slow with rising interest rates, maintained strength throughout the year. While the number of new jobs trended lower during the second half of the year, job growth averaged 240,000 through November.  There were 6.3 million unemployed in November 2023, compared to 6.0 million a year earlier. The unemployment rate was 3.7% and remained within a range of 3.5%-3.8% for most of the year. Average hourly earnings increased by 4.0% in 2023. The number of job openings decreased during the year but remained solid at 8.7 million.

One of the primary factors in the drop in overall inflation was a decline in energy prices.  According to the Consumer Price Index, energy prices fell 5.4% over the 12 months ended in November (latest CPI data available). Gasoline prices dropped 8.9% over the same period.  Food prices, on the other hand, rose 2.9%, while prices for shelter increased 6.5%.

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Wendy Nelson, CEO of Wind River Wealth Advisors, aims to provide beneficial investment management, retirement planning, financial planning, asset management, and portfolio management to protect your money with knowledgeable strategies and plans by utilizing a personal independent financial advisor.