As investors look ahead to 2024, they still need to decide whether to take the risk in equity markets, or keep their savings in cash. Cash rates remain high for the time being, and there are a range of factors that could create market volatility in the year ahead. Nevertheless, while the future is uncertain, there are a number of reasons to hold faith in the markets for long term income and capital growth.
Capital at risk. The value of investments and the income from them can fall as well as rise and are not guaranteed. Investors may not get back the amount originally invested.
2023 has demonstrated the potential opportunity cost to cash savings: US stocks, as measured by the S&P 500 Index, delivered 26.3% for the year to December 2023.1 There are no guarantees that this will persist, but there are clear risks to holding cash at a time when interest rates may fall.
There are headwinds to stock market performance. Higher valuations, inflation, and rates may mute overall stock market returns relative to the previous decade. There is also scope for political disruption arising from a busy election year around the globe. It is also possible that a number of the world’s major economies fall into a mild recession. However, we believe these headwinds are readily managed when investing in North American companies by a focus on quality and on areas of real value in the market.
Beyond the ‘Magnificent 7’
We are starting to see investors broaden their horizons. In 2023, the index’s top stocks, dubbed the “Magnificent 7,” drove the lion’s share of return. In the meantime, the equal-weighted S&P 500, which allocates a share of the index to all 500 constituents equally, saw more modest positive returns.2 But in the closing weeks of 2024, the equal-weighted index started to outperform again.
This would appear to mark a return to normal patterns. 2023 marked one of the worst periods for the equal-weighted approach (and best for market-cap weighted) in 20 years. Looking at the relative performance of the two indices over the past two decades, periods of strong outperformance for one approach tend to be balanced by periods of outperformance for the other. This suggests to us that the equal-weighted S&P 500 could take the lead in the year ahead. This view is also supported by the significant valuation gap between the market cap weighted index and equally weighted index.
Broadening leadership in North American equities
However, less important than the performance of the index in aggregate is the widening market breadth and greater potential for stock-level dispersion it implies. This would be welcome. It would suggest that investors have the confidence to look more widely than just a handful of technology stocks.
We always think quality is important, but particularly so at a time when the economic environment is uncertain. Nevertheless, after a strong year in some parts of the market, we find more of the quality stocks we’re looking for in smaller cap companies, which are priced well below their long-run average. This presents opportunities for stock pickers.
Key themes for BRSA in the year ahead
We find a number of areas with a wealth of sustainable investment opportunities. In healthcare, for example, developments in ‘GLP-1s’ - diabetes drugs with positive weight-loss side effects - are creating waves. The drug makers have benefited, while other parts of the healthcare complex brace for a drop in demand. If obesity levels fall, people are likely to need fewer insulin pumps and sleep apnea machines, for example.
There are also opportunities in the re-engineering of global supply chains. The U.S. Inflation Reduction Act, CHIPS Act and infrastructure bill create incentives for U.S. manufacturers to build operations closer to home. We see potential divergence in the auto industry, as an example, where some manufacturers may qualify for greater EV subsidies than others.
We believe 2024 may see the market grow less concentrated and look beyond the AI beneficiaries and “magnificent seven”. As our process focuses on those sustainable North American companies with strong fundamentals and sound future prospects, we welcome this shift.
1 S&P Global – S&P 500 factsheet – 31 January 2024
2 S&P Global – S&P 500 Equal Weighted factsheet – 31 January 2024
