As the Year Rolls on, the 'Everything Rally' of 2023 Begins to Unwind

Just one week into the new year, the dynamics of the markets diverge significantly from the robust rally witnessed in 2023. While the future trajectory remains uncertain, many analysts on Wall Street attribute this shift to a potential correction in popular trades from the last quarter of 2023, particularly the prolonged surge in U.S. stocks. The rapid ascent of these trades may have prompted a necessary pullback, further accentuated by investors waiting until the new year to secure gains for tax purposes.

‍

Paul Hickey, an analyst at Bespoke Investment Group, emphasizes the need for perspective, suggesting that interpreting the initial days of weakness is premature. Hickey points out that extraordinary rallies, like the one experienced in the final two months of the preceding year, are rare and temporary, and advises revisiting the market scenario when earnings season kicks off after the short trading week.

‍

Yet, the signs of unwinding the 2023 rally extend beyond stocks, as some analysts speculate that investors could be reconsidering overly optimistic expectations for Federal Reserve interest-rate cuts. This reevaluation might signify the initiation of a more substantial market reversal. The impact of this reassessment is evident across various financial instruments, including the U.S. dollar, U.S. stocks, Treasurys, gold, and oil prices.

‍

U.S. stocks, represented by the S&P 500, Nasdaq Composite Index, and Dow Jones Industrial Average, commenced 2024 with a decline, ending a nine-week winning streak. Notably, the S&P 500's 1.5% retreat over the initial four trading days marked its worst start since 2016, contributing to the end of its longest stretch of weekly gains in almost two decades.

‍

In the realm of Treasurys, yields surged in the new year, with the 10-year note reaching 4.041% on Friday, marking its most significant weekly advance since October 20. The 2-year yield, experiencing its most substantial weekly gain in a month, broke a three-week streak of falling yields. Despite this ascent, Treasury yields have notably decreased from their peak, with the 10-year yield down 94.6 basis points from its 52-week high.

‍

The U.S. dollar, gauged by the ICE U.S. Dollar Index, exhibited a 1.1% rise to 102.3 in the past week. This uptick, coupled with its best first week of a year since 2015, suggests a resurgence of the dollar, which has recently tended to trade inversely to stocks and other risk assets.

‍

Gold, after experiencing an upswing late in the previous year due to expectations for interest-rate cuts and a weaker U.S. dollar, began 2024 on a downward trend. The front-month gold ended the week down 1% at approximately $2,050 per ounce on Comex, marking its worst week in a month and concluding a three-week winning streak.

‍

Conversely, crude oil prices, which struggled to find stability in December, started the new year with a notable spike, attributed to escalating tensions in the Middle East. West Texas Intermediate crude, the U.S. benchmark, recorded a 3% increase for the week, its best performance since October 13, 2023.

‍

Beyond the notion of markets appearing "stretched," the underlying reasons for the shift may involve the Federal Reserve's stance. While the Fed has indicated the possibility of three rate cuts, minutes from the December meeting reveal uncertainties among senior officials regarding the timing of these potential cuts. Even before the release of the meeting minutes, investors had preemptively adjusted their expectations, with some rate cut projections slightly realigned.

‍

Jake Jolly, head of investment analysis at BNY Mellon Asset Management, highlights the vulnerability of U.S. stocks and bonds to economic data that might influence the Fed's decisions. As investors await the first major inflation report of the year on January 11, which is expected to show a significant increase in core CPI for December, the market remains sensitive to indicators that could impact the Fed's outlook.

‍

Despite the weekly losses, the S&P 500, Dow, and Nasdaq managed to finish the week on a modestly higher note, with the S&P 500 snapping a four-day losing streak. This suggests a nuanced and dynamic market environment that responds to economic data and shifts in investor sentiment.