What should investors expect in 2024?

-As of December 26^th, the US equity index S&P 500 and European stock index Euro Stoxx 50 were both up by +4.5% and +3.2% on the month, jacking up their year to date returns to +24.4% and +19.2% respectively. Over the same period the global equity indicator MSCI All Country World Index (ACWI) and the emerging market index MSCI EEM were both up by +3.7% and +0.3% on the month respectively. Interestingly, ACWI approached the yearend with a positive return of 19.8% which is almost the mirror image of the -19.8% loss it experienced in 2022. EEM managed to remain in the positive territory with +4.7% year to date return.

–Equities maintained their positive outlook that inflation would drop without a hard landing or recession and even some rate cuts could be in the cards by major central banks in late 2023, early 2024. Bond markets on the other hand seemed to disagree throughout the year, expecting inflation to remain elevated over the next 5-10 years accompanied by some recessionary effect which was responsible for the inverse US yield curve as of December 2023 (green line in the graph below).

–2023 witnessed a bit of a roller coaster for crude oil prices. Oil started the year around $80, then dropped below $70 around May, and surpassed $90 in September before dropping below $80 once again. Geopolitical tensions in key oil-producing regions, coupled with evolving renewable energy trends,concerns over slowing global demand and increased supply weighed on crude oil prices towards the end of the year.

–Gold, the timeless haven, experienced a revival in 2023. Fueled by inflationary concerns, investors sought the safety of this precious metal. As geopolitical tensions rose, so did gold’s luster as a store of value. In December the first month futures contract for gold gained +0.6% bringing the precious metal’s year-to-date return to +13.3%. Gold maintained its lure as an effective investment during periods of inflation and uncertainty.

–Turkish stock market ended up sliding in December dragging its return both in local as well as in US dollar terms lower. As of December 26^th, Turkish stock market index BIST100 lost -8.2% in local currency terms (-9.6% in US dollar basis). This reduced the index’s year to date return to +32.5% in local terms, its return in US dollar terms slipped further into the negative territory with -15.5%. The reason for the monthly and annual performance of BIST100 in US dollar being visibly lower than its return in local terms is due to the appreciation in the greenback against Turkish Lira by 1.6% in December and 56.7% year to date.

-Bitcoin and Ethereum, the titans of the digital currency arena, weathered market volatility with resilience. Both Bitcoin and Ethereum had a phenomenal year with 156% and 85.4% year to date returns respectively vs. an abysmal year in 2022 with -64.3% and -67.5% loss respectively. Based on these numbers, one could conclude that the recent gains of these two popular digital currencies should have more than offset their losses in 2022. Is that indeed the case? 

–What should investors expect in 2024? The biggest unknown that seems to occupy almost everyone’s mind since late 2021 is whether the battle with inflation will be won? And if so, would it come at the expense of a global recession, or will global economies manage to remain resilient? The answer to the first question will determine when the monetary tightening likely ends. The more difficult question to answer is the second one. That will determine the pace and strength of the rate cuts which neither economists nor markets can seem to agree on.

–Will the two major ongoing geopolitical conflicts, one between Israel and Hamas and the other Russia vs. Ukraine end? It is unclear if and when they will both end and how they may impact the rest of the world and therefore the financial markets. There is of course also the risk of “unknown unknowns”, which are trickier as they have a way of shocking the markets as they appear practically overnight and almost always seem to carry the risk of a snowball effect in financial markets.

–While the outlook for 2024 appears promising, astute investors must remain vigilant. Cybersecurity threats, unexpected political upheavals, crisis that may erupt in the least suspected corners of the financial markets and possibility of a new pandemic are among the potential latent risks. Being a successful investor isn’t about predicting key events. It is about knowing how to respond when those events take place, which can only be achieved by always finding ways to acquire relevant knowledge and remaining adaptable to the changing conditions.

As the clock struck midnight on December 31, 2022, ushering in a new year, few could have predicted the kind of rollercoaster ride that awaited global markets in 2023. Geopolitical events and financial shifts left an indelible mark on various asset classes, creating quite the adventure for investors worldwide.

To get a better sense of how various asset classes performed in 2023, let’s first take a look at what happened over the last 12 months and then discuss what all of this could mean for the markets in the new year.

RESILIENCE IN GLOBAL EQUITIES CONTINUED

The opening act of 2023 witnessed global equities grappling with ongoing geopolitical uncertainty between Russia and Ukraine. Trade tensions, political upheavals, banking crisis and the outbreak of new geopolitical tensions in Middle East between Israel and Hamas cast shadows over the markets. Yet, equities demonstrated remarkable resilience as major central banks seemed to make some headway in their fight with inflation.

The latter half of the year witnessed a buoyant recovery, with technology stocks emerging as the stars of the show. Case in point, NASDAQ Index which is considered a benchmark for US tech stocks delivered 44% return in 2023, one of the best returns amongst developed market equity indices.

As of December 26^th, the US equity index S&P 500 and European stock index Euro Stoxx 50 were both up by +4.5% and +3.2% on the month, jacking up their year to date returns to +24.4% and +19.2% respectively.

The global equity markets as usual benefitted from this optimistic outlook as well. Over the same period the global equity indicator MSCI All Country World Index (ACWI) and the emerging market index MSCI EEM were both up by +3.7% and +0.3% on the month respectively. Interestingly, ACWI approached the yearend with a positive return of 19.8% which is almost the mirror image of the -19.8% loss it experienced in 2022. EEM managed to remain in the positive territory with +4.7% year to date return.

BOND MARKET SENTIMENT FINALLY STARTED TO MOVE TOWARDS EQUITIES

As our readers will remember, most of the year bond and equity markets didn’t seem to concur on the direction of inflation and macroeconomic data. Equities maintained their positive outlook that inflation would drop without a hard landing or recession and even some rate cuts could be in the cards by major central banks in late 2023, early 2024. Bond markets on the other hand seemed to disagree throughout the year, expecting inflation to remain elevated over the next 5-10 years accompanied by some recessionary effect which was responsible for the inverse US yield curve as of December 2023 (green line in the graph below). Just to remind our readers, when the yield curve is inverse, it means short term yields, which are generally driven by central bank rates, are higher than the yields on longer term government bonds which are driven by expected real rates and inflation in the long run.

As the year drew to a close and inflation seemed to soften while the macroeconomic data remained somewhat resilient, bond markets came to terms with the idea of dropping inflation and thus some rate cuts by the FED, though still not fully agreeing with equities on their extent. Despite the precipitous drop in yields across the entire curve since end of September (see the blue line in the graph below), as of December 26^th (light green line) the short end of the US Treasury yield curve remained higher and the longer dated yields were at roughly the same levels as at end of 2022 (red line). In other words, the yield curve dropped but still remained above its levels in 2022.

Source: Bloomberg

At the end of 2023 it wasn’t just the yield curve that remained elevated. The forward-looking US inflation expectations (the purple line in the graph below) remained elevated as well.

Source: Bloomberg

What does this all mean?

When we look closer, implied (i.e.breakeven) inflation as of December 26^th (purple line in the graph) was not only higher vs. 2021 (the blue line) but was also higher than the inflation expected by end of 2022 (green line). What bond markets are telling us is quite interesting – even though the FED continued raising its benchmark interest rate throughout 2023 to battle inflation, by end of 2023 bond markets seem to be less convinced that the FED will be able to lower inflation vs. their conviction level by end of 2022 (green line). To the contrary, they expect inflation will be higher than before when FED rates were much lower.

Yes, the bond yields have declined from their peak levels earlier in the year, but they didn’t really converge with the equity markets. We will discuss what that means for investors in 2024 further below.

 CRUDE OIL’S PENDULUM SWINGS

2023 witnessed a bit of a roller coaster for crude oil prices. Oil started the year around $80, then dropped below $70 around May, and surpassed $90 in September before dropping below $80 once again. Geopolitical tensions in key oil-producing regions, coupled with evolving renewable energy trends, concerns over slowing global demand and increased supply weighed on crude oil prices towards the end of the year. This trend seemed to stall in December which turned out to be a relatively calm month for oil.

As of December 26^th, the first month futures contract for US crude oil WTI was down slightly by -0.5% on the month, maintaining its year-to-date loss around -5.8%. This drop in oil prices in 2023 helped bolster the expectation that global inflation may soften up further which would pave the way to central banks’ rate cuts sooner than later.

 THE COMEBACK OF GOLD

Gold, the timeless haven, experienced a revival in 2023. Fueled by inflationary concerns, investors sought the safety of this precious metal. As geopolitical tensions rose, so did gold’s luster as a store of value. In December the first month futures contract for gold gained +0.6% bringing the precious metal’s year-to-date return to +13.3%.

TURKISH STOCK MARKET PERFORMED WELL IN 2023 IN TURKISH LIRA BASIS

Turkish stock market ended up sliding in December dragging its return both in local as well as in US dollar terms lower. As of December 26^th, Turkish stock market index BIST100 lost -8.2% in local currency terms (-9.6% in US dollar basis). This reduced the index’s year to date return to +32.5% in local terms, its return in US dollar terms slipped further into the negative territory with -15.5%. The reason for the monthly and annual performance of BIST100 in US dollar being visibly lower than its return in local terms is due to the appreciation in the greenback against Turkish Lira by 1.6% in December and 56.7% year to date.

BITCOIN & ETHEREUM’S PHENOMENAL RETURNS IN 2023 DIDN’T OFFSET ITS LOSSES IN 2022

Bitcoin and Ethereum, the titans of the digital currency arena, weathered market volatility with resilience. Mainstream adoption and institutional interest continued to grow, solidifying their role not just as speculative assets but as potential components of diversified portfolios. As a result, both Bitcoin and Ethereum had a phenomenal year with 156% and 85.4% year to date returns respectively vs. an abysmal year in 2022 with -64.3% and -67.5% loss respectively. Based on these numbers, one could conclude that the recent gains of these two popular digital currencies should have more than offset their losses in 2022. Take Bitcoin for example. +156% return is surely much bigger than -64.3% loss. Right?

Actually, not really. As we had discussed in our previous issues, while very enticing, returns across multiple periods cannot be simply aggregated. Instead, they need to be compounded. Consider the following example. Assume a -50% loss in period 1 and a period 2 return of +100% for investment x. What is the net return over period 1 and 2 combined? Well, contrary to what many think, it is not +50%. It would in fact be 0%. Here is why. Assume the starting investment capital is 100 units. At the end of period 1, the value drops to 50 units (100 * (1+ (-50%)). The following year, assuming a 100% return, the value doubles and thus goes back up to 100 units (50 * (1+100%)). As a result, the net return on the investment is 0% (i.e. 100-100).

IF YOU HAD INVESTED IN NASDAQ AT THE END OF 2021, YOUR $100 WOULD BE $144

Now let’s revert back to Bitcoin and determine what the return for an investor who bought Bitcoin on close of December 31^st 2021 would be as of December 26^th 2023. The calculation reveals that the Bitcoin investor would still be underwater by -8% over this time frame despite a loss of only -64% followed by a whopping 156% return. This underlines the importance of minimizing losses vs. trying to maximize gains which could be a major blindspot for investors.

If you find the results of Bitcoin returns intriguing, then take a look at the returns of some of the mainstream investments first sorted by their returns in 2023 and then their aggregate return since December 31, 2021.

When sorted from highest to lowest returns ın 2023 only as illustrated in the graph below, crypto, equities, particularly NASDAQ and even bonds have done so much better than commodities or currencies in 2023. If you had a crystal ball and had invested in say NASDAQ at the end of 2021 your $100 would be $144!

Notes:

The above returns are based on the data and prices reported by Bloomberg as of close of December 26, 2023. All indices marked with a country name are equity indices for that respective country. “Bbrg” refers to Bloomberg. “MSCI ACWI” refers MSCI All World Country Equity Index. “MSCI World” refers to MSCI World Equity Index, which excludes Emerging Market equity indices. “MSCI EEM” refers to MSCI Emerging Markets Equity Index. The list is intended to illustrate returns of various asset classes and doesn’t include all countries or all available indices for each country. The returns on Gold and Crude Oil are based on the first month futures contract prices of each.

CATCHING THAT WAVE AT THE PERFECT TIME IN ANY ASSET CLASS IS NEXT TO IMPOSSIBLE

But of course, in hindsight vision is always 20/20. One of the golden rules in investing is to invest knowing that it is not feasible to time the markets. In other words, catching that wave at the perfect time in any asset class is next to impossible. Just to illustrate this point, let’s look at the same investments listed above but this time let’s sort it by their total return over the last two years (i.e. December 31^st 2021 to December 26^th 2023) to see how timing makes a difference. The cumulative returns from highest to lowest are illustrated in the graph below.

As you will note this list paints a totally different picture than the earlier one. The clear winners of 2023 such as crypto or NASDAQ show up as clear losers when their returns are considered over the last two years and vice versa. For instance, the Turkish stock market BIST100 in US Dollar terms, one of a handful of investments that delivered a negative return in 2023, turns out to be one of the top winners when its return is considered over the last two years. Interesting, isn’t it?

Notes:

The above returns are based on the data and prices reported by Bloomberg as of close of December 26, 2023. All indices marked with a country name are equity indices for that respective country. “Bbrg” refers to Bloomberg. “MSCI ACWI” refers MSCI All World Country Equity Index. “MSCI World” refers to MSCI World Equity Index, which excludes Emerging Market equity indices. “MSCI EEM” refers to MSCI Emerging Markets Equity Index. The list is intended to illustrate returns of various asset classes and doesn’t include all countries or all available indices for each country. The returns on Gold and Crude Oil are based on the first month futures contract prices of each.

The above could easily be replicated by looking at many other asset classes and across many other time periods. The conclusion however would not change – return on any instrument varies considerably depending on what time frame you choose to look at. This is another way of saying that in the absence of a crystal ball, your best bet in delivering consistent returns in a risk-managed fashion is not through trying to predict which instrument would deliver what return and when. It is rather accepting the fact that winners and losers constantly rotate, and therefore the right approach is diversifying the investments in your portfolio thereby diversifying your portfolio’s risk and adjusting those allocations regularly based on market trends and macroeconomic outlook.

WHAT SHOULD INVESTORS EXPECT IN 2024?

This is a great segue to discussing the macroeconomic outlook moving into 2024. What should investors expect?

Let’s start with the “known unknowns”. The biggest unknown that seems to occupy almost everyone’s mind since late 2021 is whether the battle with inflation will be won? And if so, would it come at the expense of a global recession, or will global economies manage to remain resilient? The answer to the first question will determine when the monetary tightening likely ends. Currently many developed market central banks are taking a pause, which means we may have landed at peak central bank interest rates, but that is just a speculation at this point.

The more difficult question to answer is the second one. That will determine the pace and strength of the rate cuts which neither economists nor markets can seem to agree on. It is indeed a difficult one as it will all depend on the macroeconomic data that will be released over the next period. The current sentiment is clearly optimistic illustrated by the recent upward spike in almost all risk asset classes. This situation however bodes extreme caution as any blip or hiccup in the data could create a violent reversion unexpectedly.

COULD THE CONFLICT BETWEEN ISRAEL VS. HAMAS AND RUSSIA VS. UKRAINE END?

The other major “known unknown” is the fate of the two major ongoing geopolitical conflicts, one between Israel and Hamas and the other Russia vs. Ukraine. It is unclear if and when they will both end and how they may impact the rest of the world and therefore the financial markets.

There is of course also the risk of “unknown unknowns”, which are trickier as they have a way of shocking the markets as they appear practically overnight and almost always seem to carry the risk of a snowball effect in financial markets. Couple recent examples are the FTX blowup in late 2022 and the global banking crisis in early 2023. While it is impossible to predict them, investors could count on the fact that there will be many more going forward.

ASTUTE INVESTORS MUST REMAIN VIGILANT

While the outlook for 2024 appears promising, astute investors must remain vigilant. Cybersecurity threats, unexpected political upheavals, crisis that may erupt in the least suspected corners of the financial markets and possibility of a new pandemic are among the potential latent risks.

Being a successful investor isn’t about predicting key events. It is about knowing how to respond when those events take place, which can only be achieved by always finding ways to acquire relevant knowledge and remaining adaptable to the changing conditions. Let us leave you with one of the most apt quotes about investing and knowledge. As Benjamin Franklin wisely said “An investment in knowledge pays the best interest”.

Wishing a happy and prosperous new year full of knowledge!

ELA KARAHASANOGLU, MBA, CFA, CAIA

International Finance Expert

karahasanoglu@turcomoney.com

ela.karahasanoglu@ekrportfolioadvisory.com

https://www.linkedin.com/in/elakarahasanoglu/

https://www.linkedin.com/in/elakarahasanoglu/