Markets in a Nutshell — For November 2023

There was plenty of thanksgiving in November as global stocks achieved their biggest monthly rally in three years. Investors piled into markets in the growing conviction that central banks had all but won the fight against inflation and would start cutting rates in 2024. This ignited a risk rally that propelled the MSCI World Index to a 9.1% gain. In the US, the S&P 500 Index and the tech-heavy Nasdaq posted their best months since July 2022 — advancing 8.9% and 10.7% respectively.

November was the best month for global bonds in 40 years. The FTSE World Government Bond Index surged 5.5%. Corporate debt markets also rallied, as almost $17bn flooded into US corporate bond funds last month — the biggest monthly inflow since July 2020. With high-yield spreads now well below historic averages, bond investors are betting on capital gains from falling yields and economic resilience keeping defaults low.

Boats seaworthy and otherwise were all lifted by the rising tide of rate-cut euphoria. Even Bitcoin surged to its highest price in nearly 20 months. Further confirming the market’s unbridled optimism, the VIX volatility index — Wall Street’s fear gauge — fell to pre-pandemic levels and gold rose to a record high.

Against this backdrop the Foord portfolios also advanced, but less aggressively than asset class benchmarks given their more defensive positioning — especially so for the conservative Foord International Fund — for reasons described below.

For all the bullish milestones notched by November’s surging markets, recent market history offers investors a lesson in caution. June and July of this year also delivered all-encompassing risk rallies, before succumbing to three consecutive months of declines. As was the case earlier this year, sentiment alone — and not improving fundamentals — drove November’s rally.

The fundamentals for the US economy continue to deteriorate. Unemployment has crept up to 3.9%, retail sales growth has slowed and manufacturing surveys are weaker. Economic growth is slowing and there is visible weakness in consumer confidence, housing starts and consumer delinquencies. Higher interest rates have seen the share of total spending taken up by personal interest payments rise 40% year-on-year, to 3% of consumption.

But even with a recession looking increasingly likely next year, inflation is likely to stubbornly remain higher than the US Federal Reserve’s 2% target. Core US inflation is just above 4% and the unemployment rate is just below 4%. These levels are both inconsistent with the Fed cutting rates as aggressively as the market expects.

US stock market dynamics remain far from ideal, despite a slight broadening in November. The top five stocks in the S&P 500 have contributed 68% of its gains this year and the top 10 make up 90% of the return. Such narrow leadership has historically pre-empted a correction, as was the case before the dot-com bubble burst. And while valuations for many US stocks have risen into even more giddy territory, geopolitical risks remain elevated. The gold price hitting an all-time high is another sign that dark clouds remain on the geopolitical horizon.

Traders in futures markets are betting that the Fed will begin to cut rates from its current 22-year high as early as March 2024. Consensus forecasts have the federal funds rate at 4% by the end of next year. Rarely has the Fed cut that rapidly outside of recessions. This suggests an inconsistency with the market’s assumption of an economic ‘soft landing.’ Rates cuts of that magnitude are more consistent with a ‘hard landing’ and recession.

Foord’s portfolios are invested in businesses that are resilient and can weather an economic contraction, but which are also trading on valuations that provide investors with a margin of safety. We continue to avoid overweight positions in assets that are priced for perfection. In the case of a ‘no landing’ — where inflation remains sticky and interest rates stay higher for longer — one wants to be in assets that protect against inflation and in businesses with pricing power. We own such assets in sizable amounts in our portfolios.

For now, most leading indicators suggest the market’s celebrations to be premature and overdone. Too much festive spirit going into year-end may well lead to a painful hangover in 2024. We saw this outcome two years ago as markets peaked right at the end of 2021, before falling by about a fifth to their 2022 lows. As stewards of our investors’ capital we intend to remain sober, levelheaded and vigilant for opportunities throughout.

To all our investors, thank you for your trust and best wishes for 2024 from all of us at Foord.