Could a downturn be positive for markets?

December was a tough month for the markets, but they bounced back to start the year. All US indices rose in January, international markets fared even better and bond markets rallied strongly. Overall, it was a good start to 2023 after a very difficult 2022. So what does all this positive news mean for the possibility of a recession ahead and the outlook for the market? Let’s take a closer look.

Falling interest rates helped the market gain

In January, the benchmark 10-year U.S. Treasury note yield fell by almost a full half point to below 3.5 percent. This continued decline in long-term interest rates, coupled with continued declines in inflation, have driven the market’s recent gains. Inflation is now forecast to fall even further, and markets are betting on the Fed slowing or stopping rate hikes. Typically, expected lower interest rates mean higher bond and stock prices, and that’s exactly what we’ve seen.

Signs of an economic slowdown

Despite the positive market news, it was a different story for the economy, which showed signs of slowing down. On the one hand, job growth remained healthy and economic growth exceeded expectations. On the other hand, consumer spending fell for the second consecutive month, while business confidence and investment also retreated. With that in mind, a recession looks likely this year, and that’s the main risk we face in 2023.

Even here, however, there is good news. Any decline is likely to be mild. The job market is still strong and consumer confidence remains healthy. Thus, the impact on the average person should be limited. Moreover, a mild recession could actually be positive for markets if it encourages the Fed to hold off on rate hikes. Of course, nobody wants a recession. But if we are going to have Now is about as good a time as any.

A better year ahead?

And so we begin the year. inflation seems to have peaked, interest rates are down, and while we may be headed for a recession, it should be mild. In general, conditions are favorable for the markets this year. 2023 is likely to be better than 2022, perhaps by quite a bit.

That said, there are risks that lie beyond the expected recession. Here in the US, politics is a big concern, with the debt ceiling confrontation at the top of the list. Internationally, we don’t know how or if China’s economy will bounce back from Covid-19. That unknown and the ongoing war in Ukraine continue to keep commodity markets high. And, of course, there are risks that we don’t see yet. Of course, we are not done with turbulences.

As we look ahead, despite the risks, the signs are that things will be better six months from now than they are today. Debt ceiling confrontation will be resolved. We will know where we are in the recession. And inflation and rates should continue to decline. While things are likely to improve, downside risks tend to be contained over time to where we are now.

Not a bad place

Overall, we’re not in a bad place to start the year. The risks are real, but we are increasingly moving past many of them into more positive territory. As we have seen, market turbulence is normal. But as investors, we need to keep looking at our long-term goals. The coming year, despite the real concerns, looks positive.