The reasons for the stock market to fall in 2022 may or may not be the same as in 2023. However, they may still play a role in deciding the future course of action for the markets. For example, if inflation led to rate hikes, thereby, impacting stock prices, a reversal in price rise momentum may be seen as a positive for the markets. Still, even though inflation was seen cooling down as per CPI data for October and November, the battle between bulls and bears may not be over yet.
The stock market in the first half of 2023 is expected to show higher volatility as more data on macros starts slowing. Weaker economic trends are likely as the Fed fights inflation, but a mild recession could help set stocks up for a better second half of the year.
How inflation affect stock market
US CPI data shows that Goods inflation peaked several months ago, but service inflation has continued to rise. In November, the annual price rise was at 7.1%, falling from 7.1% as seen in October. The higher core-inflation numbers are still a worry for the US Fed and any substantial cooling may bring the bulls back into the market. Categories of goods inflation peaked several months ago, but services inflation Continues to trend higher.
However, it may be too early to call it a victory for the Fed. The “Big Short” investor Michael Burry in a recent tweet warns of inflation making a comeback – “Inflation peaked. But it is not the last peak of this cycle. We are likely to see CPI lower, possibly negative in 2H 2023, and the US in recession by any definition. Fed will cut and the government will stimulate. And we will have another inflation spike. It’s not hard.”
How recession affect stock market
From falling consumer demand to making it tough for employers to employ more people, US Fed is aiming to cool down the economy by hiking rates. Higher interest rates will slow down the economy thus keeping the price rise at bay. The flip side to this is the risk of pushing the economy into a recession. A soft landing could still be a respite but a hard landing on the economy could have other repercussions as well. Markets might not have discounted both these possibilities by now and analysts are making calculative guesses as of now.
Also Read: Fed minutes reveal no rate cuts in 2023, economy headed for recession
How Federal Reserve affect stock market
A Fed Pivot could be back in the news soon. US Fed has already hiked rates by 425 basis points in 2022. The message from Fed chief Powell is clear – there will be more rate hikes in 2023 and a rate cut may happen only in 2024. what it means is also that the terminal federal funds rate will be higher than earlier expected by the market. However, if inflation especially core inflation dips considerably and the economy shows signs of a hard landing, the Fed may opt to cut rates earlier than expected leading to a rally in stocks. Money markets anticipate that the Fed will begin cutting rates by the end of 2023 after which top global investors expect equities to rise in 2023.
Also Read: A 60/40 portfolio for 2023 after both equities and bonds slumped last year
“Expectations for peak fed funds now stand at 5% to 5.25% by mid-20233, but the market may still be too optimistic about when rates will start to come down. There are plenty of historical cases of the Fed loosening too soon before the inflation battle was won, which Chairman Powell is acutely aware of,” says Mitch Zacks, Senior Portfolio Manager at Zacks Investment Management.
How earnings affect stock market
Falling consumer demand for goods and services, and rising interest rates have a negative impact on corporate earnings. As corporate profits decline, stocks get revalued on the downside. Several analysts are expecting earnings for S&P 500 to be around $230 in 2023, however, many others are predicting much lower levels of around $180. “On the economic front, earnings estimates are coming down and S&P 500 profit margins have peaked, which generally implies an economic slowdown is underway or very close,” says Zacks.
How dollar index affect stock market
With rising interest rates, the strength of the US Dollar increased in 2022. A stronger dollar index against other currencies is negative for US companies. A high dollar hurts U.S. corporations’ international profits when converted back into dollars, which puts pressure on corporate profitability, including most of the S&P 500. However, as the dollar starts to weaken, a positive sentiment could be seen in US stocks.
Finally, the stock market in 2023 will revolve largely around growth in the gross domestic product (GDP) in the US. US Fed will have to intervene with a different approach to avoid any financial mishaps in the economy. The silver lining, as we move into 2023, is Beijing’s early-December decision to dismantle stringent Covid curbs, which may keep the global search engines running.