The financial markets ended 2023 on a very positive note: very favourable economic data pointed to a resilient economy, inflation stabilised and the US central bank (Fed) opened the door to rate cuts in 2024. In short, the markets are almost fully buying into the renowned soft landing scenario.
As a result, the global equity index gained more than 3% in euro terms in December, while performances in Europe and the United States reached similar levels.
In terms of sectors, there was a remarkable turnaround.
The winning sectors over the month were not those that posted the best performances over the year as a whole, but rather those that lagged behind, such as real estate, industry, basic materials and finance. At the same time, two types of sectors were shunned and performed less spectacularly than they had at certain times of the year: flagship sectors such as technology and communications services (which include the famous “Magnificent Seven”), and the most defensive sectors such as consumer staples and utilities.
This reveals two major trends among investors at the end of the year. The first is a desire to reposition themselves in sectors that are less highly valued than technology and the artificial intelligence theme, which have already seen astronomical performances and are at very high valuation levels. The second trend underlying this sector rotation is a readjustment of the economic scenarios that investors have adopted. With inflation showing signs of stabilising, the markets are anticipating rate cuts: the latest Fed projections have confirmed this direction, pointing to a possible extension of the economic cycle thanks to a more benign monetary environment. As a result, sectors likely to benefit from lower interest rates and economic stabilisation were favoured, while the more defensive sectors were not popular among investors.
On the bond front, the fall in yields that began in November continued. As a result, the US 10-year yield fell to 3.80%, from 5% in October. Similarly, its German counterpart fell from almost 3% in October to less than 2% in December. Good inflation figures suggesting that the worst is behind us in terms of surging prices, together with the perceived optimistic speech by the Fed Chairman, allowed rates to correct the sharp rises seen in the summer.
Thus, after a 2022 in which investors suffered losses on both asset classes, a soft landing for the economy and a normalisation of inflation enabled the financial markets to regain their lustre and post a positive performance over the year, regardless of the risk profile.
As we enter 2024, we continue to recommend a neutral stance on equities, albeit with a certain amount of discretion within the asset class. In terms of sectors, we recommend limiting the defensive bias, which is expressed through an overweight on consumer staples and an underweight on consumer discretionary. In this regard, it was decided to neutralise the positioning in these sectors. We therefore decided to overweight the financials sector, which could benefit from a still relatively high level of interest rates and continued economic growth.
The small cap segment is also an interesting option for taking advantage of a potential style rotation within equities. This segment has significantly underperformed large caps over the last two years and is now at a very attractive relative valuation level. Also, with lower interest rates potentially kick-starting the economy, this segment is likely to make a comeback in 2024.
Within the bond class, duration risk appears less attractive after the recent fall in rates. This is why it seems appropriate to limit duration risk in order to target maturities of 3 to 5 years and thereby take full advantage of the rate cuts that central banks are expected to implement, particularly in the US.
