The Unusual Stock Market Phenomena of 2023: What’s Happening and What It Means for Investors

The year 2023 has been quite unusual for the stock market so far. The S&P 500, a benchmark for U.S.-listed stocks, is up by 5% year-to-date, which is impressive considering we’re only two months into the year. However, 82% of the companies in the S&P 500 reported a 4.7% decline in their Q4 2022 earnings. Typically, when corporate profits go down, it’s not a good sign for stocks. But what’s even more puzzling is that the smaller and riskier stocks of less established companies, which are often unprofitable, have done even better than the S&P 500.

The Nasdaq, heavily comprised of tech stocks, was up by approximately 18% at one point last month and remains up by 10% as of writing. The Russell 2000, the world’s best-known benchmark for small-cap U.S. stocks, is up 11%. It’s important to note that many companies listed on these two indices aren’t even profitable, making their stocks speculative bets. So why are these riskier assets staging a comeback, especially when the economy’s risk of entering a recession in 2023 remains elevated?

The January Effect

The market experienced a massive rally in January, which can partially be attributed to the so-called “January effect.” Historically, stock prices rise more in January than in any other month. This anomaly is because people sell off their assets in December to close the year, claiming a capital loss for tax purposes. This trend continued in January 2023, which drove stocks upward. However, this doesn’t wholly explain why riskier stock indices have done better than the S&P 500.

The Market’s Bet

The market believes that inflation is going away soon, so the riskier assets are performing well. If you look at the Consumer Price Index (CPI), it shows that inflation is decreasing. The Fed uses metrics like the CPI to measure inflation and determine economic policy, regardless of whether it accurately measures the real inflation people experience daily. With the CPI on a downtrend, the Fed will unlikely continue increasing interest rates for too long. Recession fears are also adding to this expectation. The labor market isn’t as robust as it seems, and rising layoffs play a big part. Big Tech has cut over 330,000 jobs since January last year, affecting the economy’s stability. A weakening labor market and a slowing economy mean less wiggle room for the Fed to continue raising rates aggressively since the central bank doesn’t want to have a full-blown economic crisis on its hands.

Related Facts

• The January effect is a known market anomaly where stock prices rise more in January than in any other month due to tax-loss harvesting.
• The CPI is one of the most commonly used measures of inflation, but it’s not an accurate reflection of everyday consumer inflation.
• The Fed uses a variety of metrics to determine economic policy, including the CPI.
• The labor market is not as robust as it may seem, impacting the overall economy.

Key Takeaway

The stock market’s behavior in 2023 has been weird, with riskier and smaller stocks, such as those listed on the Nasdaq and Russell 2000, doing far better than the S&P 500, despite widespread concerns about the economy’s direction. The market’s behavior can be partially explained by the January effect and indications that inflation is slowing down, leading experts to believe that the Fed is unlikely to continue interest rate hikes at a high rate. However, investors should remain cautious and not assume riskier stocks will always perform well, especially during economic uncertainty.

Conclusion

The current behavior of the stock market in 2023 has puzzled many investors, but it can be explained as a result of seasonal factors and changes in the economic climate. The market’s response to declining inflation expectations could slow interest rate hikes, which would benefit investors by stabilizing the economy. Nevertheless, investors must be cautious and not invest too heavily in riskier assets during times of uncertainty, as this can lead to significant losses.