In our first newsletter of 2023, we set out our expectation for “markets to grind higher during 2023 and recover a meaningful portion of 2022’s losses”. This forecast turned out to be accurate, with equities rallying strongly in response to signs that global inflation had abated and that the interest rate tightening cycle had reached its end.
Throughout a volatile year, it was the US Federal Reserve that called the shots, even with unexpected geopolitical developments such as the war in the Middle East. Markets rose and fell in response to dovish and hawkish signals from the Fed. But as 2023 drew to a close, investors became more confident that the Fed and other central banks around the world would start to cut interest rates during 2024.
As a result, equities experienced a strong fourth quarter, with the S&P 500 rising 11.7% and the MSCI World Index up 11.5%. The S&P 500 Index advanced 8.9% in November, the second-best performance for any November since 1980, and only behind the pandemic-fueled rebound in November 2020. In fact, the S&P 500 closed 2023 in the black for nine consecutive weeks.
The Magnificent Seven ride again
For the full year, the S&P 500 and the MSCI World Index returned 26.3% and 24.4%, respectively. The Magnificent Seven—Amazon, Apple, Alphabet, Microsoft, Meta Platforms, Nvidia and Tesla—were the heroes of the year and accounted for an outsized portion of above gains. Between them, these Big Tech stocks boast a market capitalisation of some 12 trillion dollars and account for nearly a quarter of the stock market in the US.
Most of our actively managed funds performed well in 2023, but because of Big Tech’s dominant representation, underperformed the indices. It is not unusual for such funds—especially those that focus on quality stocks—to lag the indices when markets soar. Well-managed active funds that focus on companies with strong underlying cash-flows, significant pricing power and competitive advantages typically come into their own when market returns are more muted, or negative. 2022 was an obvious exception though, due to our preferred managers’ deliberate avoidance of energy stocks — these being in a sector which by its nature is not defined as quality— and led to their underperformance in a falling market. (The energy sector was the only sector within the S&P 500 that delivered a positive return for 2022).
For this reason, we continue to build portfolios that include both passive and actively managed components. This approach enables clients to safeguard their wealth in volatile times, while also allowing them to capture growth, irrespective of whether macroeconomics or individual company performances are setting the pace.
Slower growth in 2024?
Looking ahead to 2024, we don’t expect that global equities will replicate their stellar performance of 2023. Though fears of a global recession have somewhat abated, economists forecast slower growth for this year than last. Furthermore, we believe that the market has already largely priced in the Federal Reserve’s interest rate cuts that are expected to take place during this year.
That said, there may be scope for acceptable returns, albeit at lower levels than 2023. Much depends on whether the Magnificent Seven can retain their current valuations and whether other stocks will join the rally when interest rates fall. Conversely, geopolitical factors like elections around the world and an expanding conflict in the Middle East are key risks for the year ahead.
South Africa—not a compelling value play
Turning to South Africa, the JSE ALSI delivered a mediocre return of 9.25% in rand for calendar year 2023, which equates to a mere 1.57% as measured in US dollars. On the currency front, the rand ended the fourth quarter 3.4% stronger versus the US dollar, but weakened 7.5% for the year. South African markets were weighed down by weak growth and infrastructural woes such as load shedding and the crisis at the ports. Notwithstanding this adverse environment, our local Wealth Accumulator Fund outperformed its benchmark due to its offshore bias, while our Wealth Preserver Fund was ranked the second-best performing fund for 2023 in its sector, which includes more than 150 peers.
Some local asset managers are touting South African equities as a value play, but we remain unconvinced. While there are some world class blue-chip companies in South Africa, the outlook for the economy is poor. With the country gearing up for elections, we don’t see any appetite from the ruling party to implement the economic reforms that are necessary to restore investor confidence.
Ahead of the national and provincial elections, we can expect the rand to be volatile. We also believe that in the absence of credible plans to end load shedding and address other infrastructural issues, South Africa’s economic performance will lag its peers. Without tailwinds such as higher global demand for commodities, we expect middling performance from South African assets, at best.
As we move into 2024, the rand and South African equities may benefit in the short term if falling interest rates elsewhere in the world help to fuel global appetite for risk and higher yields. However, we steadfastly recommend that our South African clients continue to externalise their wealth (with a caveat that this be based on individual financial circumstances), to take advantage of the superior investment opportunity set offshore, thereby reducing their exposure to local political risk.
