Closing in 2022, the “annus horribilis” of financial markets, stock markets have rebounded tonically in 2023. January was an extremely strong month for almost all asset classes, the best start to the year for US and European equity markets since 2019 and 2015 respectively. Bonds rallied strongly as well. Indeed, the only major asset that did not rise in January was oil.
What drove such a strong month? The answer lies in the market’s expectations of future events and how they have changed since October. Three factors matter most: firstly, a more accommodative tone from the Federal Reserve in the US with expectations from investors of a slowing pace of interest rate hikes as early as the end of this year. Secondly, the warm winter in Europe has allowed energy prices to fall dramatically (European gas prices have now fallen 85% from their peak in August) definitely dispelling remaining doubts about possible restrictions on the European and German industrial system in particular. And finally, China’s rapid reopening following the abandonment of its zero-Covid policy has driven up market expectations of global economic growth in 2023, particularly in those spots where it was weakest such as European manufacturing and Chinese real estate.
All this contributed to a rapid reduction in fears of possible ‘bad outcomes’ for the market, and this has been reflected in a massive 50% decline in equity volatility and a 40% decline in bond volatility since October, accelerating in January and supporting a huge increase in risk-taking in the financial system.
This rebound was clearly visible in the performance of the major indices worldwide. The MSCI World global index generated a positive performance of +7.10% in January. In the United States there was a very good recovery of the Nasdaq, a big loser in 2022, with positive performance of 10.70%. S&P 500 also did well, +6.20%. Same trend in Europe, where benchmark Euro Stoxx index generated a positive return of 9.75%. Positive but with a less favorable trend was Switzerland with SMI index registering +5.20% on a monthly basis.
Past experience shows that the month of January is often a harbinger of signals for the whole year. As mentioned earlier, January 2023 was one of the best months in recent years and is sure to bode well for the rest of the year. However, the future outlook for investors remains complex, but opportunities to generate long-term returns are still present. Market valuations are attractive especially for bonds. The challenge this year will be to balance long-term prospects with short-term risks, both in terms of duration and equity exposure.