Reviewing the year of 2023
In 2023, things went way better than anyone thought. People were worried that the economy would struggle and the stock market would have a hard time, especially after a tough 2022. The experts were predicting tough times, with the Federal Reserve raising interest rates and everyone thinking a big recession was about to hit. Even the more hopeful folks were only expecting modest gains in the stock market by the end of the year.
Things got a bit scarier in March when Silicon Valley Bank, Signature Bank, and First Republic Bank all went through some serious troubles. These banks had huge losses from government bonds, and it made people concerned that there might be a big crisis in regional banking, leading to a credit crunch that could push the whole economy into a downturn. Fortunately, the Federal Reserve quickly stepped in to help out the regional banks dealing with problematic bond portfolios, and that helped restore confidence in the stock market.
However, the later part of 2023 reversed the fear as it turned out to be one of the best years for the stock market in the last ten years. The MSCI All World index went up by a whopping 18%. This was particularly good news for big tech companies and other growth-focused businesses that had suffered a lot in the 2022 downturn.
So, what caused this unexpected turnaround? Well, the Federal Reserve changed its plans from raising interest rates to lowering them in 2024. Even though the markets didn't quite believe it would happen for a while, by the end of the year, inflation pressures had shifted enough for this change to become a reality.
At the start of 2023, I went against conventional wisdom and predicted a big surge in the stock and bond markets and increased the weightage of the equity component of the portfolio and that turned out well for our portfolio. You can find the previous year report here in this link.
One standout success story was Nvidia NVDA, a company that designs semiconductor chips. Their stock went up a 239% in 2023, thanks to the rise of artificial intelligence technology. Just the year before, in 2022, Nvidia's value had been cut in half.
Even bonds, which are usually seen as a safer investment, made a comeback, although the gains weren't huge for most people.
The top-performing region in 2023 turned out to be the US stock market, closely followed by India. This shift was influenced by a significant change in Foreign Direct Investments from the developed world, moving away from China and towards India. The result was a surge in interest and activity in the Indian market. The European economies performed relatively well as they recovered from the oil shocks and the Russia-Ukraine war though the cracks from the war still lingers on. In Japan, where the economy has been sluggish for more than a decade due to deflation, sprung to live as high inflation around the world translated to moderate inflation in Japan, leading to an increased consumer spending lifting the market. However, the reluctance to raise interest rates contributed to a fall in the Japanese Yen, creating a drag on the stock market in relative to USD.
On the flip side, the Chinese stock market experienced a decline of over 20% due to the absence of expected post-COVID opening revenge spending. Compounded by factors such as declining property prices, high youth unemployment, and uncertain government regulations, Chinese consumers chose to save rather than spend, reflecting a widespread lack of confidence in the economic outlook. With a simultaneous drop in Foreign Direct Investments and growing concerns about increased government scrutiny on foreign funds investing in Chinese stocks, the Chinese stock market ended up being the worst-performing among major economies.
For most of the year, the big story in the currency world was how strong the dollar was, especially when compared to the Japanese yen. The Fed kept increasing interest rates, and the Bank of Japan didn't do much more than suggest a slight leaning towards higher rates. As a result, by the middle of November, the dollar had gone up by almost 16% against the yen. Only in the last few weeks of the year, after the Fed hinted that it was going to lower rates, did the dollar lose some ground against the yen. However, by the end of 2023, the dollar was still up by almost 8% against the yen.
The fourth quarter brought some relief, as inflation started to come down and most countries with the exception of China had opened up their borders. However, the improvement was not enough to have changed the outcome: 2022 was a year for the record books, and it is not in a good way.
Having said that, with great risk, comes great opportunities, and history has shown that investors who are able to capitalize on times of great fear, will benefit the most when the danger is over.
Investment Outlook and Themes for 2024
The US Inverted Yield Curve
An inverted yield curve occurs when short-term interest rates are higher than long-term rates and usually signals a possible recession. The inverted yield curve has been in place for most of 2022 and 2023 did not materialize into a US recession. Going forward in 2024, there is a good chance that the yield curve will revert back to normal with many of the factors already in place. The most important factor is that US Federal Reserve has already signal 3 interest rates cut in 2024. On top of that inflation expectation has been tapered and economic optimism is on the rise. Should the yield curve flip back to normal, this will give a strong boost of confidence in the stock markets.
China's slow-down and potential exporter of deflation
2023 is a troubled year for China as this is expected to continue for 2024. However, there have been signs that the government has recognized that they have over estimated the power of the Chinese consumer, and may start to par back on their wolf warrior diplomacy and put on a gentler and more cordial tone when dealing with international relationship, in order to woo foreign investors back. The thaw in the relationship can be seen in the recent APAC meeting where President Biden and Xi met for the first time since COVID and that seems to have improve the strained relationship by some. However, the motion which started the ball rolling for foreign funds to seek their investment else where, cannot easily be reversed in the short term, especially with China still on opposing views on some of the major international conflict with their major investing partners.
2024: An Election Year
United States, India, Indonesia and the European Union will be holding their elections this year with a highly probably Biden vs Trump face-off. A Trump administration is expected to change many of the international status quo which will have a great impact given the number of global conflicts which requires leadership at this moment in time. The smaller Taiwanese election will also have a lot of spotlight as this will determine the amount cross strait tension.
Russia-Ukraine and Israeli-Hamas War
Both of these wars are expected to persist throughout in 2024 and should not spill into a bigger regional war involving more countries. However, given how irrational wartime leaders can become, this is still an unknown factor that can throw a wrench into the global economic recovery.
Portfolio Review 2023 and Investment Strategy for 2024
Our approach to capitalize on the economic recovery following the challenges of 2022 has yielded significant returns. Notably, the portfolio demonstrated strong performance, with a gain of +15.66% for the Cash portfolio, +20.44% for CPF-IS, and +13.93% for SRS. The CPF-IS portfolio outshone the other two funds, primarily attributed to its higher allocation of technology stocks.
With an impressive average return of 8.04% per annum over the past 5 years, our portfolio has consistently delivered positive results. This performance not only surpasses industry benchmarks but also outperforms the top-performing balanced unit trust funds in Singapore over the same 5-year period.
Thanks to the aggressive allocation of 80% into equities, the portfolio has performed exceptionally well by riding into the uptrend. I plan to hold on to this allocation until the valuation of stock market starts to show signs of over-valuation and low on steam. That is when we will start to be more aggressive in taking profits.
The upcoming year will continue to center around the United States, with a keen focus on the tech sector and the trajectory of the AI trend. Will this herald the next significant tech breakthrough, akin to the introduction of the Apple iPhone and mobile apps, or will it follow the path of less successful endeavors like Virtual Reality and Cryptocurrency? Only time will tell.
However, there's a growing sense that the AI revolution stands on more solid ground than its predecessors. Unlike past fads, the AI revolution has demonstrated its ability to enhance overall productivity. The impact is evident even in the refinement of written content, as evidenced by this article being edited by ChatGPT, contributing to the sudden improvement in writing skills.
The mistake we made for the year was to increase the weightage of the equity allocation to Emerging Markets instead of other regions with hopes that the opening of the China economic will drive up the value of EM stocks. The China recovery did not materialize but the losses from the Chinese market was offset by the soaring Indian and Brazilian stock market which helped to propel the fund to give a return of 5% for 2023. The returns are not as high as our more US focused funds, but fared much better than a China focused Asian fund which we were previously invested in.
The other allocation we made was to reallocation the fixed income allocation from a short duration high yield bond to a longer duration government bond to lock in the peak interest rates.
Outlook for 2024
My outlook for 2024 will be positive, given that one of the most important factor for a bullish market, the US interest rates, will probably fall or in worse case scenario, remains flat. This will give certainty to investors for them to invest or to borrow with a much better certainty that their cost of financing is not going to go up. The large retrenchment exercise that spanned the whole of 2022-2023 will have improved the bottom line for many large corporations and they are in the right position to deliver good profits in 2024. Inflation is also holding at a lukewarm level at 2-3%, which is the ideal level for good economic growth.
The sole exception lies in China, currently undergoing a shadow reminiscent of Japan's lost decade. The nation grapples with falling property prices, a surge in unemployment, and the ominous specter of deflation. Anticipated to export deflation in 2024, China is likely to witness a decline in the prices of manufactured goods, as local manufacturers slash prices in a bid to generate revenue and weather the economic downturn.
In a positive development, the Chinese government has acknowledged the prolonged decline as more than a temporary setback, taking proactive measures to stimulate the economy. The Chinese market, characterized by one of the most affordable valuations among major economies, stands poised for significant growth if favorable conditions align. However, the realization of such potential hinges on a crucial factor—the political will to reverse certain policies. Given the concentration of power in the hands of a single individual, predicting whether such a reversal will occur remains a challenging task.
I will maintain an small allocation into the China market via the Emerging Market fund at a 5% weightage of the portfolio.
Other favorable regions are Japan and India. the Japanese is seeing a spark in their economy thanks to the weakening of the Japanese Yen. However, this advantage may prove to be temporary as a falling interest rate may weaken the demand for Japanese exports which was the main driver of its recent growth and the lackluster economy Chinese economy which accounts for the largest export market for Japan, will continue to weigh. India has been a profitable market in 2023 and I foresee the trend to continue in 2024. What is missing in 2023 is a more vibrant East Asia and Middle East economies, which is expected to do better in 2024.
In summary, my portfolio strategy will be more conservative than 2023 as I will be looking to lock profits into bonds in the later part of 2024. In terms of country allocation, US will still be the favored market with a focus on Technology and US Small Companies still. Other possibilities include India, Japan and China with India being more favored. Even though I am generally favorable in 2024, I still have to keep a lookout for uncertain geo-political events that may derail the economic recovery in an increasing bi-polar world. However, by being nimble to deal with crisis and ride out the bad times, we will be able to navigate any problems in the coming months.
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