3 Market Predictions for 2024 and Learnings from 2023

Key takeaways

• A pivoting Fed could set the stage for stocks and bonds to outperform cash in 2024.
• Active managers may be able to capitalize on elevated levels of dispersion. We see opportunities for high conviction stock pickers, flexible bond managers, and idiosyncratic alternative strategies to drive better portfolio outcomes in 2024.
• There are always opportunities to earn alpha with active, but it’s hard to win without indexes at the core.

2023 was a humbling year for many in the asset management business. While the year ended on a high note, many of the highest conviction calls from the start of the year turned out to be wrong: a “recession foretold” looked more like a soft landing, with the U.S. economy surprising to the upside and the S&P 500 finishing the year up 26.6% while the tech heavy Nasdaq jumped 43%. Meanwhile, expectations for a “banner” year for bonds were met with one of the most volatile years for bond returns in recent memory (albeit one that ended the year with the Agg Bond Index up 5.6%).¹

Will 2024 bring more of the same? See below for my three key takeaways from 2023, as well as three predictions for 2024.

2023 Market Recap

There are always opportunities to earn alpha with active, but it’s hard to win without indexes at the core.

2023 was a year with some very big winners. Active managers who got their calls right were rewarded in a big way: the “Magnificent 7” stocks were up an average of 105% in 2023.²

But those magnificent mega-cap technology stocks would have been a very out-of-consensus call to make at the start of the year, when most expected that bonds would beat stocks and that the growthiest names would perform worst of all as high interest rates challenged valuations.

Everyone who went into the year following that wisdom – overweight bonds, underweight stocks, and underweight technology stocks in particular – underperformed in a big way.

But even those who expected a recession in 2023 may have realized impressive portfolio gains if they held onto their core exposures: having index exposure alongside those alpha-seeking managers allows you to swing for the stars while still maintaining exposure to the broader universe in case markets throw you a curveball.

2023 Returns

Market timing is really hard, and your gut is often wrong.

2023 was a hard year for market timing. Investors were net sellers of stocks through the first half of the year, even as the S&P 500 rallied by 17% through 6/30. Flows started trickling in over June and July, right before the S&P 500 fell by 8% between August and October. Investor flows resumed during November, in the midst of the S&P 500's 14% sprint through year-end.³

Investors were late to the U.S. stock performance party
Monthly U.S. equity category flows, $B

On the other hand, investors stayed committed to bonds for most of the year… even as bond market volatility stayed high. But that commitment wavered as bonds struggled through the late summer/early fall months, and $22B flowed out of bond funds as the 10-year Treasury note hit a peak yield of 4.99% in October. While investors started buying again in November, many missed the Agg Bond Index’s 8.5% return in the last two months of 2023.⁴

Bond investors got spooked right before the year-end rally.
Monthly U.S. taxable bond category flows, $B

The solution for market timing challenges? Putting guardrails on yourself – once you’ve set your strategic asset allocation, make rules for how far you will let yourself deviate.

Our Target Allocation model portfolios team sets +/-5% bands on asset allocation. It’s enough to make an impact if you are right but not enough to blow up your portfolio if you are wrong.

To find the right bands for you, consider your conviction level in the call and the impact if you’re right or wrong. Asset allocation tends to have a bigger impact on portfolios than security selection, so take care with big asset allocation calls. We do expect 2024 to be another year of market dispersion, though, and believe that high conviction active managers could deliver significant alpha.

Don’t fight the Fed.

Wall street consensus called for 2023 to be an amazing year for bonds as many proclaimed that “bonds were back.” That prediction proved to be true, though it was not smooth sailing, as bond markets felt a lot of pain in the first half from a Fed that hiked beyond initial expectations.

It is hard for bonds to do well when the Fed is hiking. However, as the Fed now pivots to holding rates steady, with their dot plot predicting cuts in 2024, the great detractor from returns is going away… and staying overallocated to cash could be the new “fighting the Fed.”

We have historically seen bonds deliver the strongest returns in the period between the Fed’s last hike and first cut – if you wait for the Fed to start cutting, you may be too late.
Average annualized returns (%), 1990-2023

Three market predictions for 2024

Stocks and bonds deliver positive returns and cash underperforms both as the Fed pivots to rate cuts.

Stocks and bonds may both be poised for success in 2024. Easing inflation and a pivoting Fed should reduce headwinds that have faced both asset classes in recent years. Resilient growth may prove to be an additional tailwind for stocks. And bonds could benefit if interest rates fall further ahead of expected Fed rate cuts.

On the other hand, cash may be getting less attractive. With the Fed forecasting three interest rate cuts in 2024, we could start to see cash rates fall as soon as March. Unlike bonds, cash does not benefit at all from falling rates – it simply delivers a lower yield.

Diversifying alternatives take center stage as bond yields fall and interest rate volatility spooks investors.

Falling interest rates make for attractive bond returns, but we do not expect the fall to be a straight shot from here. The 10-year U.S. Treasury Note kicked off the second half of 2023 yielding 3.85%, then rose to a high of 4.99% before falling back to finish the year at 3.88%. This volatility could continue into 2024 as markets digest growth and inflation data.

The combination of high coupon rates and yields that are more likely to fall than rise should make for attractive bond returns. But investors will likely want to manage that interest rate volatility – and the risk that longer-term interest rates rise – with a healthy allocation to diversifying strategies that may still be able to deliver attractive idiosyncratic returns. Our highest conviction ideas here include the BlackRock Strategic Income Opportunities fund (BSIIX), BlackRock Global Equity Market Neutral fund (BDMIX), and the BlackRock Tactical Opportunities fund (PBAIX).

A broadening equity rally creates opportunities, and at least one big winner in 2024 will take the world by surprise.

The equity rally broadened beyond technology stocks in the second half of 2023, but dispersion between the market’s big winners and losers remained. We expect the market dispersion to continue, creating opportunities for active managers to take advantage.

Favorite potential winners from Gargi Chaudhuri ⁵, head of iShares Investment Strategy, include smaller cap U.S. quality companies, as well as companies in India, Mexico, and Japan. She also sees opportunity in sectors that underperformed in 2023, such as healthcare and financials, as areas that could benefit due to attractive valuations.

These parts of the market could very well soar, however, I believe that at least one big winner will take the world by surprise – not unlike the big AI names driving markets in 2023.

As was the case in 2023, it’s prudent to maintain some broad equity index exposure just in case something ‘else’ captures the zeitgeist. For an investor seeking broad equity index exposure, consider the iShares Core S&P 500 ETF (IVV) or iShares MSCI USA Quality Factor ETF (QUAL) for a lean towards higher quality names – and complement it with a high conviction stock picker like the BlackRock Unconstrained Equity Fund (MAEGX).

Getting your portfolios ready for 2024

The key takeaways for portfolio constructors? Balance and diversification. If you were underweight stocks going into 2023, now is a good time to at least get back to benchmark. We see plenty of opportunity for active managers to deliver alpha in 2024, but suggest seeking balance between active managers and core index exposures. We look to high-conviction stock pickers, flexible bond managers, and idiosyncratic alternative strategies to drive better portfolio outcomes in 2024.

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