Stocks May See January Pain After December Gain. What’s in Store.

While December may not be as strong, both historical and technical patterns suggest that it won’t be a disappointment, particularly given the recent decline in yields.

“November was a strong month, perhaps pulling forward some of the usual December rally, but not enough to merit reducing risk exposure just yet,” writes DataTrek co-founder Nicholas Colas. “November’s price action…was a near-textbook example of how financial assets trade when interest rates start to move lower.”

High interest rates, which influence yields, have been a drag on stocks, since they tempt more consumers to opt for risk-free Treasuries over equities. Yet the yield on the 10-year T-note fell to 4.33% from 4.88% in November; inflation data have continued to trend toward the Federal Reserve’s target of 2%, leading the market to predict interest-rate cuts to come in 2024.

Fundstrat Head of Research Tom Lee argues that recent readings “point to an easing of inflation faster than expected. And thus, gives [the Fed] room to walk back their ‘higher for longer’ hawkish tone seen for much of 2023 and the resulting efforts to dampen expectations for moving away from ‘higher for longer.’”

That, of course, is just what the market wants to hear so if the Federal Open Market Committee remarks midmonth, along with other commentary from the central bank, cooperate, that will be more fuel for the Santa rally.

“This month is likely a zigzag as conflicting inflation and growth data causes moves in rates and thus stocks,” writes Lee. “But the primary turning point higher is mid-December post Dec FOMC.”

Not just any dovishness will do, however. If investors feel that the Fed is softening its outlook because the agency sees a recession on the horizon, that could spook markets, given a soft landing for the economy is firmly baked into stocks following 2023’s gains.

So while investors will likely walk away happy from December, and definitely from the year as a whole, the narrow expectations about what the market wants to hear could create some volatility as 2024 begins.

UBS argued as much yesterday, noting that while market expectations are probably accurate, the timing may not conform to current hopes, leading to a potentially lumpy start to the year.

On Friday Sevens Reports President Tom Essaye was at pains to make it absolutely “clear that I’m not a raging bear.” Essaye wrote that he is concerned that “in part due to the calendar and the push for a year-end rally, this market is now susceptible to disappointment in early 2024, not unlike it was following 2021 where stocks melted up into year-end only to be smacked across the face once the calendar rolled and they had to confront high inflation, slowing growth and a hawkish Fed.”

Essaye is quick to note that he doesn’t think 2024’s “reaction will be that bad,” but there’s always the worry about disappointment when the market is so optimistic about the Fed’s positioning and the economy. The net result of the potential mismatch between expectations and reality could result in volatility in the first half of the year, echoing UBS’s position. That would be a marked difference from 2023’s great January.

Of course, while investors might prefer a smooth ride, enduring volatility in 2024 is better than simply watching the market decline. And there are still reasons to hope that overall 2024 will end with investors in the black.

“The lack of recession evidence, receding inflation and pivoting central bank policies are conducive to ongoing uptrends in both stocks and bonds,” notes Tim Hayes, Ned Davis’ chief global investment strategist.

In addition the market the Magnificent Seven big tech stocks—Apple, Amazon.com, Google parent Alphabet, Facebook parent Meta Platforms, Microsoft, Nvidia, and Tesla—that have driven so much of 2023’s gains weren’t the best performers in November, meaning market gains are getting more broad based and less susceptible to individual stock or sector selloffs.

Likewise, as DataTrek’s Colas writes, it’s “hard to be bearish when the U.S. economy is performing reasonably well and energy prices are moving lower,” citing lower oil and natural-gas prices, along with the strength in industrial metal prices las month. “For investors who feel commodity markets provide a reliable forecast of future economic conditions, all this is good news.”

Here’s hoping more is to come.

Write to Teresa Rivas at [email protected]