Expect big swings in the S&P 500 next year

0
  • Investors should expect further volatility in the S&P 500 in 2023 as investors update their probabilities for economic outcomes, UBS Global Wealth Management said Tuesday.
  • “Bigger” tail risks to the market would come from divergences in activity between the goods and services sectors of the economy and the Federal Reserve’s rate hike path.
  • “Big month-to-month swings could continue into next year,” UBS said.

The S&P 500’s big monthly swings will likely continue well into next year as investors weigh Federal Reserve moves and economic data to gauge whether there will be a soft landing or a recession for the larger world economy, UBS Global Wealth Management said on Tuesday.

“Bigger” tail risks to the market would come from divergences in activity between the goods and services sectors of the economy and the Federal Reserve’s rate hike path.

“[Expect] more volatility and large market swings exacerbated by positioning as investors update their probabilities of economic outcomes in reaction to each new data point and statement from the Fed,” Jason Draho, Head of Allocation assets for the Americas at UBS Global Wealth Management, in a note.

In 2022, the S&P presented a “pendulum-like yield pattern,” he said. “Big month-to-month swings could continue into next year before the economy’s final destination becomes clear.”

A graph shows the monthly fluctuations of the S&P 500 from 2022 to October.

A graph shows the monthly fluctuations of the S&P 500 from 2022 to October.

UBS



On the central bank side, the Federal Open Market Committee indicated last week that investors should expect a slower but steeper cycle of rate hikes going forward. This implies that the odds of a fifth consecutive 75 basis point hike in December have fallen while the odds of a federal funds terminal rate above 5% have risen.

Going slower gives the Fed more time to assess the impact and reduces the risk of excessive tightening. “A soft landing that could materialize in the absence of overtightening becomes a bit more plausible,” Draho said.

On the other hand, a slower pace of rate hikes could cause the Fed to work harder than it should because inflation has taken hold. “It increases the risk of a harder landing, although it also delays when that would happen,” he said.

Meanwhile, the divergence in activity between the goods and services sectors in the slowing U.S. economy adds to the risk of extreme outcomes, UBS said. Services have seen “solid” growth this year as consumer spending patterns normalize after the peak of the pandemic, while goods sectors have contracted or are close to it. In a typical business cycle, the two sectors would move somewhat in sync.

“Optimically, these forces could balance out as the pendulums gradually return to normal timing patterns, allowing the economy to fend for a soft landing,” Draho said. “Pessimistically, the current strength in the services sector could prevent the labor market and inflation from cooling sufficiently, thus forcing the Fed to continue raising rates until a sharp recession is virtually certain. ”

The S&P 500’s monthly swings this year include October’s total return of 8% after September’s 9.3% drop, the worst monthly loss since March 2020, when the COVID outbreak was spreading around the world.

“Investors shouldn’t position their portfolios for either of these extreme scenarios, but higher probabilities for both have market implications,” Draho said.

Share.

Comments are closed.