Reviewing My 2023 Financial Market Predictions: The Hits & The Misses So Far

The fact that the economy has remained stronger than expected has driven the narrative so far this year.

2023 has, so far, started the year with one set of expectations and developed another as the year progressed.

In January, the markets believed that the inflation was topping out and the Fed was near ending its rate hiking cycle. With a lot of economic data already indicating a slowdown globally, the table was setting for a potential recession later in 2023 that could potentially usher in another drawdown in equities.

Instead, the U.S. economy has proven more resilient than expected. The labor market is still strong, GDP growth is still comfortably positive and equities have rebounded from 2022's correction (although the majority of gains were limited to a handful of mega-cap growth stocks). We had a few speed bumps along the way - the failure of multiple banks and a debt ceiling fight in Congress - but the markets have mostly been able to handle any risks thrown at it.

As many people do, I made my own set of market predictions at the beginning of the year. Some were broadly focused, some were ETF specific. Some of them look prescient in hindsight. Others, not so much!

With 2023 nearing its halfway point, let's revisit the 13 predictions I made at the beginning of the year to see how they're looking today.

No Interest Rate Cuts From The Fed In 2023

Verdict: True (so far)

What I said at the time: "The Fed says it’s targeting a rate of around 500-525 basis points when all is said and done sometime in the first half of the year. The futures market is calling BS right now and is pricing in quarter-point cuts at both the September and December meetings. Which one is right?"

Today: It wasn't necessarily a popular opinion at the time that the Fed wouldn't cut rates this year, but Powell has consistently delivered a hawkish tone throughout the hiking cycle even though investors were overeager to call a pivot.

The rate hiking cycle is still likely not over and the longer-term trend on inflation is still sticky and persistent. It's tough to imagine the Fed even considering a rate cut until 2024.

Treasuries Will Be The Best Trade Of The Year

Verdict: Not so much

What I said at the time: "I believe that once recession draws closer, investors will continue to migrate to Treasuries for safety. As I write this, the 10-year Treasury yield is around 3.6%. I wouldn’t be at all surprised to finish the year in the 2.0% to 2.5% range."

Today: Long-term Treasuries are up 5% on the year, so it hasn't been a losing trade, but tech is clearly the big winner of 2023. On top of that, virtually all of the gains in long-term Treasuries came in January and they've been flat ever since.

I'm still long Treasuries in my portfolio because I think that conditions could change in the 2nd half. But if the recent AI mania is any indication, it could take something major to happen to break the current bullish sentiment and send investors fleeing to Treasuries.

A Stock Market Rally In The 1st Half Followed By Losses In The 2nd Half

Verdict: True (so far)

What I said at the time: "The biggest rally probably occurs sometime around the end of Q1 when the Fed officially finishes its work in raising interest rates. The market has been waiting for this for nearly a year and will be ready to go on a buying spree when it actually happens. It’s impossible to ignore the macro backdrop though."

Today: The path of returns in the 1st half was correct, but the reason the rally happened wasn't quite what I expected. Instead of rallying on the Fed pivot and looser financial conditions, it was because of a stronger than expected economy despite "tighter for longer".

We'll see what happens in the 2nd half, but I really don't think that the risk asset markets can deny the direction of the underlying macro data indefinitely.

Inflation Finishes Around 3%

Verdict: Unlikely

What I said at the time: "If you look at the month-over-month headline inflation rates in the United States, the last five months have looked like this - 0%, 0.1%, 0.4%, 0.4%, 0.1%. That’s an annualized rate of around 2%. This could be a quick decline from November’s 7.1% rate once those high base effect numbers start rolling off, even if we don’t get all the way down to 2% at the end."

Today: Short-term annualized inflation rates were trending in the right direction at the time, but some of those monthly figures got revised higher and the trend has moved sideways instead of down. Headline inflation will drop into the 3-4% range in June, but likely start drifting higher again later in the year.

Core inflation is still running at a 4-5% annualized rate and it has yet to slow down.

Annual ETF Flows Make A Run At $1 Trillion

Verdict: Unlikely

What I said at the time: "This might be a bit of a long shot, but it’s also not out of the question. U.S. ETFs will probably end up with net inflows of between $600 and $700 billion when all is said and done. That probably makes the leap from $600 billion to $1 trillion seem unlikely, but ETFs took in more than $930 billion in 2021. The ETF industry came close to the $1 trillion mark just one year ago and I think they’ll do it again."

Today: I called it a long shot at the time, but annual flows don't look like they'll come anywhere near the $1 trillion mark. As of today, they've taken in about $200 million year-to-date and $500 million over the past one year. Impressive to be sure, but the trend of money pouring into ETFs has definitely slowed.

Lots Of ETFs Closing

Verdict: True

What I said at the time: "A lot of new issuers and a lot of new product has hit the market over the past two years. A lot of it will struggle to gain traction and not all of it is going to survive. I think issuers are going to start to cut bait on some of these tiny, more niche strategy type of ETFs and we’re going to see that net new ETF number much closer to zero than 300-400."

Today: The pace of ETF closures has definitely picked up. According to the ETF.com database, there were 146 ETF/ETN closures in 2022. In the first half of 2023, we're already up to 113. Most of the funds that are closing were tiny and probably not even on your radar, but it's notable that even the bigger issuers are cutting bait on flailing products. Invesco has closed a few dozen funds this year. Previous hot themes, including SPACs, autonomous vehicles, ESG and even digital assets mining, have been shut down.

Of the universe of more than 3,000 U.S. listed ETFs, nearly 1/3 of them have $30 million or less, generally a decent benchmark that indicates a higher risk of being shuttered. I expect the closing trend to continue.

Raging COVID Pandemic In China

Verdict: True (sort of)

What I said at the time: "The government’s zero COVID policy was incredibly draconian in nature, but it did have the desired effect of limiting the number of coronavirus infections (if you want to believe the official numbers, of course). But now the country is entering a new era. Unfortunately, most of its citizens have no exposure to COVID, but the recent rollback of the zero COVID policy in response to mass protests recently is probably going to unleash a torrent on the nation’s population."

Today: When the government finally lifted the country's zero COVID policy, there was a huge spike in COVID infections. Then the Chinese government stopped reporting the numbers, so who really knows how bad things actually got.

The subsequent economic rebound that was supposed to come with the reopening has been a disappointment and now investors are waiting to see if the government will unleash another round of stimulus to get things going again.

The Best Performing Sector Will Be Consumer Staples

Verdict: False (so far)

What I said at the time: "I think it’s very likely that the bottom on the S&P 500 isn’t in it and we’ll keep trending towards new lows. That keeps defensive, value and low volatility stocks near the top of the performance charts. I think there will be a lot more pressure on balance sheets and that opens the door for another traditionally defensive sector to jump into the lead."

Today: Consumer staples has been a middle-tier performing sector and has gained 2% year-to-date. That puts it about 12% behind the S&P 500 and more than 30% behind the tech sector, although it has outperformed 5 of the 11 major sectors.

This all depends on what happens in the 2nd half, but I think it's safe to say that staples won't be the year's big winner. I do, however, think that defensives and low volatility stocks begin to perform relatively better in the 2nd half as fundamentals start to matter more and the wave of AI enthusiasm starts to wear off.

The Worst Performing Sector Will Be Materials

Verdict: False (so far)

What I said at the time: "Manufacturing is already contracting and likely to get worse as the year goes on. Factory demand will start drying up. The homebuilder market is collapsing too. The cyclical downturn is likely to continue and one of 2022’s biggest winners could turn into one of 2023’s biggest laggards."

Today: Like consumer staples, materials has been a middle of the road performer, gaining 3-4% in 2023 so far. The macro case I laid out for materials underperformance has largely happened. Manufacturing continues to slow. Factory activity is also declining. The housing market has started to turn lower (although homebuilder stocks have done incredibly well). Industrial metals have also struggled.

With the recession seemingly getting delayed, investors haven't given up on cyclicals yet. I'm not sure the outlook is necessarily promising over the next 6 months, but it hasn't been nearly as bad as originally thought.

No Bitcoin ETF In 2023

Verdict: True (so far, but maybe not for long)

What I said at the time: "The SEC keeps refusing to approve these products based on their deregulated nature. Gary Gensler has consistently said that he’s uncomfortable with the risks involved in crypto and is unlikely to change his mind until the regulatory environment changes."

Today: It seemed as if nothing had changed and then BlackRock filed for a bitcoin ETF. Several bitcoin ETF filings have already been rejected or withdrawn, so why would BlackRock file for now knowing that it would just get thrown in the trash heap too?

The BlackRock filing is unique because it added a surveillance sharing agreement to its proposal. Is that enough to get the SEC comfortable and push it across the finish line? It's impossible to know for sure today, but a lot of people feel like it will get approved in its current form. We'll likely get a decision within the next couple months.

Single Stock ETFs Will Be A Bust

Verdict: True

What I said at the time: "I think it’s safe to say at this point we won’t be seeing hundreds of single stock ETFs. We might not see many more than we see right now. Clearly, there’s some demand to trade Tesla shares, but that’s about the only one. Even ETFs based on Microsoft, Alphabet, Amazon, Apple and Coinbase haven’t garnered much interest. Not only do I suspect we’ll only see a handful more of these products get launched in 2023, I think we’ll see some closing in 2023 as well despite their recent launch."

Today: True on pretty much every count. The group as a whole has roughly $1.5 billion in assets, but more than half of that is in the Tesla 1.5x ETF. There are only about two dozen products still active and half of them have $10 million in assets or less.

We also saw several single stock ETFs close in June, including those targeting Nike, Pfizer and PayPal. For a strategy that some thought could include hundreds of new ETFs over time, it sure seems like the fad has already fizzled out.

International Stocks Will Outperform The S&P 500 By At Least 10%, Ushering In A Decade Of Dominance For Foreign Stocks

Verdict: False (so far)

What I said at the time: "I believe the pendulum starts swinging back towards international stocks again and it starts now. It would be a bit counterintuitive to think that emerging markets would lead heading into a recession, but this is no normal environment. Valuations are ridiculously cheap with some P/E’s in the 5-6 range. Dividend yields are high. Value has done well throughout 2022 and should continue to do so in a cyclical recovery."

Today: Developed markets stocks have trailed the S&P 500 by about 4% and emerging markets are lagging by 10%. Developed markets actually looked pretty good for the first 4-5 months of the year, but took a back seat when AI mania took over. As of right now, Europe looks like it's in trouble. Japan and China are still trying to figure out how to kickstart their economies. With the U.S. economy still growing at a decent clip, it's probably the U.S. market that remains in control for the time being.

The "decade of dominance" part will take years, obviously, but I think the case remains strong. U.S. stocks have led for 15 years and that kind of run has overstayed its welcome. At some point, the value becomes too good to ignore and the pendulum starts swinging in the other direction.

The 10-Year/2-Year Treasury Yield Spread Will Break -100 Basis Points

Verdict: True

What I said at the time: "A triple digit 10Y/2Y spread hasn’t happened since the early 1980s. It’s at -69 basis points today. Even at this level, it’s an historical outlier, but I think there’s a pretty clear path to hitting -100. It’ll require the Fed to stay firm on their commitment to keep monetary conditions tight well into 2023."

Today: Bingo! The 10Y/2Y yield spread hit -107 basis in early March and a big part of the reason is that the Fed maintained its hawkish stance far beyond what was expected. It rebounded above that level shortly thereafter, but it's been trending lower for weeks and is currently at -97 basis points. The 10Y/3M spread is at -167 basis points.

If the Fed remains hawkish, the short end of the yield curve probably isn't going to move much. It all depends on the long end. The markets will probably need to see a soft landing that avoids a recession and subsequent recovery before this approaches breakeven again. If there's a significant negative sentiment shift that triggers a flight to safety trade, this spread could get even wider.