Review of markets over the fourth quarter of 2023

The final quarter of 2023 delivered a welcome Christmas present for investors. After the slight reality check in the third quarter, the last three months of the year saw strong returns across most major asset classes. Growing excitement that central banks will cut interest rates sooner in 2024 than previously expected resulted in an ‘almost everything rally’. Developed market equities delivered 11.5% total return while global aggregate bonds returned 8.1%. Commodities were the outlier delivering -4.6% to close out a lacklustre year for the asset class after the excitement of 2022.

The end of ‘higher for longer’ rates fears boosted growth stocks which delivered 13.4% over the quarter, but value stocks also delivered a very respectable 9.5%. Real estate investment trusts and small caps, which had struggled in the face of higher rates, bounced back delivering 15.6% and 12.6% respectively as the market priced in six cuts for the Federal Reserve in 2024.

Exhibit 1: Asset class and style returns

Source: Bloomberg Barclays, FTSE, LSEG Datastream, MSCI, J.P. Morgan Asset Management. DM Equities: MSCI World; REITs: FTSE NAREIT Global Real Estate Investment Trusts; Cmdty: Bloomberg Commodity Index; Global Agg: Bloomberg Global Aggregate; Growth: MSCI World Growth; Value: MSCI World Value; Small cap: MSCI World Small Cap. All indices are total return in US dollars. Past performance is not a reliable indicator of current and future results. Data as of 31 December 2023.

Global equity markets reversed the third quarter narrative. The S&P 500, with its growth tilt, was the best performing major equity index over the quarter delivering 11.7% total return, its best quarterly performance for three years. Returns for the full year were dominated by the ‘magnificent seven’ tech and AI stocks, which contributed around 80% of the index returns. But over the quarter, the rally broadened with 33% of the index reaching new 52-week highs in December.

European equities also delivered strong returns of 6.7%, with index composition the primary driver of underperformance relative to the US rather than underperformance at each individual sector level. Emerging market equities delivered 7.9% despite being hamstrung by weak Chinese performance. Mounting growth concerns meant Chinese equities fell by 4.8%, but this was offset by strong returns elsewhere, particularly in Latin America where the MSCI EM LATAM Index delivered 17.8% in US dollar terms over the quarter.

Japanese equities, benefiting less than other markets from central bank tailwinds, were the worst performing equity market at 2.0% over the quarter. The UK equity market also lagged due to a combination of higher exposure to underperforming energy stocks and sterling strength, ending the quarter up 3.2%.

Exhibit 2: World stock market returns

Source: FTSE, LSEG Datastream, MSCI, S&P Global, TOPIX, J.P. Morgan Asset Management. All indices are total return in local currency, except for MSCI Asia ex-Japan and MSCI EM, which are in US dollars. Past performance is not a reliable indicator of current and future results. Data as of 31 December 2023.

Coming into the final quarter of 2023, the market was comfortable that central banks had finished hiking, but cautious about how long rates would remain at restrictive levels. A series of softer inflation prints in the US and Europe, however, was enough to remove those fears and investors shifted to expect pre-emptive cuts from the central banks. This view was then compounded at the December Federal Open Market Committee meeting where the latest projections suggested three cuts over 2024. Importantly Chair Powell, in a significant shift from prior messaging, did not use the press conference to push back on market pricing for cuts early in 2024.

Fixed income markets were positive across the board. Expectations of early central bank cuts, tightening spreads and a weakening dollar supported positive returns. The more dovish anticipated path for interest rates meant government bonds delivered strong returns over the quarter. The top two sovereign markets were both in Europe where a longer duration in the index helped UK Gilts deliver 8.6% over the quarter, and tightening spreads relative to German Bunds boosted Italian returns to 7.5%.

Exhibit 3: Fixed income government bond returns

Source: Bloomberg Barclays, LSEG Datastream, J.P. Morgan Asset Management. All indices are Bloomberg Barclays benchmark government indices. All indices are total return in local currency, except for global, which is in US dollars. Past performance is not a reliable indicator of current and future results. Data as of 31 December 2023.

Tightening spreads also helped credit. Spreads on high yield and emerging market debt fell as the funding risk posed by higher for longer US rates for emerging market economies and riskier companies faded. The greater interest rate sensitivity of the global investment grade index meant it outperformed high yield with returns of 8.8% over the quarter. Emerging market debt ended the quarter as the top performing sector with returns of 9.3%, while global inflation linked bonds delivered returns of 8.6% over the quarter. Finally, global indices enjoyed a further tailwind as a weakening dollar boosted USD returns for global investment grade credit and inflationlinked bonds.

Exhibit 4: Fixed income sector returns

Source: Bloomberg Barclays, BofA/Merrill Lynch, J.P. Morgan Economic Research, LSEG Datastream, J.P. Morgan Asset Management. Global IL: Bloomberg Global Inflation-Linked; Euro Gov.: Bloomberg Euro Aggregate - Government; US Treas: Bloomberg US Aggregate Government - Treasury; Global IG: Bloomberg Global Aggregate - Corporate; US HY: BofA/Merrill Lynch US HY Constrained; Euro HY: BofA/Merrill Lynch Euro Non-Financial HY Constrained; EM Debt: J.P. Morgan EMBIG. All indices are total return in local currency, except for EM and global indices, which are in US dollars. Past performance is not a reliable indicator of current and future results. Data as of 31 December 2023.

Market sentiment was even more mercurial than normal over 2023, bouncing from recession worries at the start of the year, to resilient growth over the summer, to higher for longer in the autumn, and ending the year focused on future rate cuts. Falling inflation and dovish messaging out of the Federal Reserve reversed the worries of the prior quarter. Positive stockbond correlation worked in investors’ favour, with stocks and bonds rising together. But with the market pricing around double the number of cuts that the Federal Reserve dot plot indicates, and a soft landing now consensus, many areas of the markets start 2024 priced for perfection. Investors will be watching closely to see whether this is delivered in the new year.

Exhibit 5: Index returns for December 2023