The 4 biggest market stories of 2023 — and what’s next in 2024

Looking back on 2023 as it draws to a close, it turned out to be a banner year for stocks. Even bonds avoided the bout of losses that seemed imminent as investors wrestled with the outlook for the economy and interest rates.

Stocks are ending the year on a high note, with the Morningstar US Market Index just 3% away from recouping all its losses from 2022′s bear market. Stocks rose 2.7% over the course of the week. Bonds are making a comeback too, and strategists are readjusting to fixed income once again paying out attractive yields.

Here are the four stories that were top of mind for investors this year, and how analysts say those stories will play out in 2024.

Higher rates for longer — For now

In many ways, the story of the markets this year was about macroeconomics. “2023 has been all about rates and inflation and the Fed,” says Jeff Buchbinder, chief equity strategist at LPL Financial.

The Federal Reserve hiked interest rates four times over the year—the culmination of an aggressive campaign it began in 2022 to bring down stubborn inflation and prevent the economy from overheating. Higher interest rates generally weigh on the prices of stocks, bonds, and other financial assets. Market watchers spent this year with a close eye on the central bank, reading tea leaves for clues about the likely direction of its monetary policy.

The Fed spent much of the middle of the year signaling that rates would stay “higher for longer” as inflation remained sticky, which sent stocks falling and benchmark bond yields soaring to their highest levels since 2007.

Now, after a few months of encouraging economic data, most analysts expect cuts in 2024, though there’s little agreement on exactly when they will happen. Right now, bond markets are pricing in a hefty six interest rate cuts next year. That would make for a 1.5-percentage-point reduction in the target federal-funds rate. In their latest economic projections, Fed officials anticipated roughly 0.75 percentage points of cuts.

“Whether that actually comes to pass relies in large part on if inflation continues to slow,” says Ben Bakkum, senior investment strategist at Betterment. “There is a ton of uncertainty around that.”

The magnificent seven

In 2023, investors continued to love the biggest stocks on the market, the mega-cap tech companies known as the “Magnificent Seven.” They are Nvidia (NAS: NVDA), Tesla (NAS: TSLA), Meta Platforms (NAS: META), Apple (NAS: AAPL), Amazon.com (NAS: AMZN), Microsoft (NAS: MSFT), and Alphabet (NAS: GOOGL). After climbing steadily in the first half of the year, the group stumbled in August as bond yields soared, then recovered as the market rallied in November.

This year, “there’s been a lot to love with the Magnificent Seven,” says Adam Hetts, global head of multi-asset investing for Janus Henderson Investors. He points to robust earnings and positive interest rate risk, which investors find attractive when the economic outlook is murky. Investors also like that these stocks have heavy exposure to artificial intelligence.
While Morningstar assessed these stocks as undervalued at the beginning of the year, Dave Sekera, chief U.S. markets strategist at Morningstar, says they’re all now “fully valued.”

They’re neither cheap nor overwhelmingly expensive. For now, many investors are still willing to pay the full price. In the face of economic uncertainty, “it’s worth paying a premium for some reliability and quality,” Hetts says.

But these stocks’ dominance has come against a backdrop of anxiety over an overly concentrated market. The Magnificent Seven has had an outsized impact on the returns of the entire market this year, and some strategists are warning that a narrow market won’t be sustainable forever. They say areas like small-cap stocks and international markets could eventually catch up.

Artificial intelligence

Undoubtedly the biggest market buzzword of 2023 was AI. After ChatGPT landed with a splash a year ago and chip designer Nvidia delivered one of the biggest earnings surprises in recent memory, investors clambered to get in on the action.

Nvidia’s stock has surged some 230% in 2023, while Microsoft (a high-profile backer of ChatGPT creator OpenAI) is up 53%. The Morningstar Global Next Generation Artificial Intelligence Index, which tracks 49 companies with exposure to AI, is up 75% on the year.

Strategists agree AI isn’t going anywhere, and everyone is wondering what the next big breakthrough will be. “So far, the AI story has been just Nvidia, Microsoft, and OpenAi,” says Bakkum. But he says a more diverse landscape is just around the corner as other firms get in on the action, and points to semiconductor companies like Advanced Micro Devices AMD as potential beneficiaries.

Hopes of a soft landing spur ‘everything rally’

Financial markets staged a major comeback at the end of the year, thanks in large part to renewed confidence in the Fed’s ability to engineer a soft landing.

“We had the exact opposite of 2022,” Buchbinder says. The Morningstar US Core Bond Index is up almost 5% for the year, compared with losses of nearly 13% in 2022. The Morningstar US Market Index is up 25% for 2023, compared with losses of 19.5% in 2022.

Those gains have come as investors grow confident about rate cuts, but strategists say risks remain. Bakkum points out that some lagged effects of the Fed’s tightening may not have yet materialized, and on top of that, growth is poised to slow down next year. Not to mention the potential for a second wave of inflation—a downside risk for both bond and equity prices.

“The conundrum for investors,” says Hetts, is whether we’ll see a “Goldilocks cut,” wherein inflation falls but growth remains strong, or a recessionary cut, prompted by policy becoming too restrictive. The answer to that question will have major implications for investors’ strategies in 2024. “Are we pedal-to-the-metal or slam-on-the-brakes, from a risk perspective?” Hetts asks.

All that uncertainty is uncomfortable, but long-term investors can be confident that one of the first rules of the markets will hold. “The biggest risk investors face in an environment like this is being uninvested and missing the eventual rally,” Hetts says.