November 2023 Stock Market Forecast
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The S&P 500 continued to churn lower in October as investors anticipated the Federal Reserve may have already reached its terminal interest rate—the top short-term interest rate required to bring inflation to the Fed’s 2% target without unacceptable slowing of the economy.
The S&P 500 dropped 2.2% in October, and the latest round of economic data indicates the Fed still has work to do in its ongoing battle against inflation. Still, inflation is significantly lower than peak 2022 levels, U.S. economic growth has been resilient and the S&P 500 remains up 9.2% year-to-date as investors anticipate the Fed could begin to aggressively cut interest rates as soon as the first half of 2024.
Investors are optimistic the market can resume its bullish early-year momentum in November given that the fourth quarter has historically been one of the best three-month stretches of the year for the S&P 500.
No More Rate Hikes?
The two key market catalysts that have moved stock prices in the past two years will remain front and center in November: inflation and interest rates.
The consumer price index gained 3.7% year-over year in September, down from peak 2022 inflation levels of 9.1% but still well above the Federal Reserve’s 2% long-term target.
The Commerce Department estimates U.S. gross domestic product grew 4.9% in the third quarter, exceeding consensus economist expectations of 4.7% growth.
However, the GDP report wasn’t good enough to get stocks back on track, and economists anticipate U.S. economic growth will slow in coming months. The U.S. personal savings rate dropped from 5.2% in the second quarter to 3.8% in the third quarter, a potential sign inflation and elevated interest rates are already weighing on consumers.
Bill Adams, chief economist for Comerica Bank, says the economy has been much stronger in 2023 than economists expected.
“Annual real GDP will likely be about 2.4% this year, well above the 0.5% forecast of the Fed’s December 2022 dot plot. That will reinforce the Fed’s impression that forecasting tools developed in the pre-pandemic economy are less accurate in the current environment, causing them to put more emphasis on backward-looking data in hand, and less emphasis on their view of the outlook when calibrating policy,” Adams says.
The Federal Open Market Committee (FOMC) opted to maintain interest rates at their most recent meeting on November 1 after raising rates eleven times since March 2022. The FOMC has intimated there might be one final rate hike before the end of the year, but the bond market is pricing in just a 20.0% chance the Fed will raise rates further in 2023.
U.S. Recession Watch
The Fed is reaching a critical point in its battle against inflation, and the next couple months will determine whether or not it can navigate a so-called soft landing for the U.S. economy without tipping it into a recession.
U.S. existing home sales dropped to a 13-year low in August, and rising credit card debt and delinquencies could be additional red flags that a slowdown in consumer spending may be right around the corner. In addition, the U.S. Treasury yield curve has been inverted since mid-2022, a historically strong recession indicator.
So far, the most convincing argument a soft landing may still be possible has been the strong U.S. labor market. The Labor Department reported the U.S. economy added 336,000 jobs in September, far exceeding economist estimates of 170,000 new jobs. U.S. wages were up 4.2% year-over-year, and the unemployment rate remains historically low at just 3.8%.
Jeffrey Roach, chief economist for LPL Financial, says U.S. economic growth will start to slow in the fourth quarter. Roach says rebuilding of inventories contributed 1.3% to third-quarter GDP growth, a boost that will likely disappear in the fourth quarter.
“Consumer spending contributed over half of the quarterly growth but it looks like consumers are starting to wind down their spending splurge as they head into the end of the year,” Roach says.
“It’s too early to be dogmatic about the final quarter of the year but investors should expect some deceleration in momentum.”
Jamie Cox, managing partner for Harris Financial Group, says there has seemingly been a disconnect between the solid U.S. economic data and a stock market trending steadily lower so far in the second half of the year.
“It’s hard to square such sequentially good economic growth with such lackluster stock market performance. There is only one clear explanation: investors think ZIRP (Zero Interest Rate Policy) is the only condition which permits the economy to grow, and that is clearly an incorrect assumption,” Cox says.
Earnings Rebound
Rising interest rates and a downturn in consumer confidence are a bad combination for S&P 500 earnings growth.
Third-quarter earnings season has been mixed so far, with S&P 500 companies reporting 2.7% year-over-year earnings growth.
The S&P 500 has traded lower for three consecutive months for the first time since March 2020, but the third quarter is on track to be the first quarter of positive earnings growth for the S&P 500 since the third quarter of 2022. Analysts are projecting S&P 500 earnings growth will accelerate to 5.3% in the fourth quarter, which will be good enough to bring the index’s full-year earnings growth up to 0.9%.
High interest rates and tight credit markets are impacting some market sectors more than others. Communication services earnings are up 42.2% and consumer discretionary sector earnings are up 33.4% in the third quarter compared to a year ago. On the other end of the spectrum, materials sector earnings are down 20.7% and energy earnings have dropped 38.1% in the quarter.
Technology sector earnings are up 9.0% overall in the third quarter, but investors have punished several major tech stocks for not reaching the market’s high bar of expectations.
Shares of Facebook parent company Meta Platforms (META) declined 3.7% the day after it reported a quarterly earnings beat and 23% revenue growth. Shares of Google parent company Alphabet (GOOG, GOOGL) dropped 9.5% following its earnings beat, its worst day of trading since March 2020.
How To Invest in November
While the economic outlook remains uncertain, there are also reasons for investors to be optimistic in November and beyond. The S&P 500 has yet to make a new all-time high in 2023, and the index has historically averaged a 13.1% gain in the 12 months following such years.
However, investors concerned about the potential for a U.S. recession can also take a more defensive approach to the market and increase their financial flexibility by dialing back exposure to stocks and increasing their cash holdings. Investors can already earn 5% or higher in high-yield savings accounts heading into November, and those interest rates will likely rise if the Fed pulls the trigger on one more rate hike.
Value stocks have historically outperformed growth stocks when interest rates are high. High interest rates have a negative impact on discounted cash flow valuations, which can hurt high-growth stocks. Since the beginning of 2022, the Vanguard Value ETF (VTV) has generated a total return loss of 5.2%, while the Vanguard Growth ETF (VUG) has generated a total return loss of 16.1%.
In addition, certain market sectors generate more stable and less cyclical earnings than others and can make for better defensive investments during economic downturns. Utility stocks, consumer staples stocks and health care stocks are typically considered defensive investments and may be relatively insulated to cyclical declines in the economy and consumer confidence.
David Trainer, CEO of New Constructs, says investors should be especially careful with the technology sector this earnings season given how much the sector is dominated by just a few megacap stocks.
“Rather than getting exposure to an entire sector, investors are really getting exposure to a handful of stocks and that is risky, especially in a market and economy on shaky ground,” Trainer says.
He says Alphabet is one of his preferred large cap tech stocks because of its high profitability and relatively attractive valuation.
