Mickey Kim: Will ‘bull market’ continue or are stocks poised for a tumble?

What a difference a year makes, thank goodness! The S&P 500 had a total return of 8.7% in the second quarter of 2023 and a 16.9% return in the first half. Further, though past performance is no guarantee of future results, history can be a useful guide. CFRA Research tells us that, following a first-half gain in excess of 10%, the S&P 500’s second-half return typically nearly doubles its 77-year average second-half return (8.0% vs. 4.5%) and delivers a 12-percentage-point improvement in its frequency of positive second-half returns (83% vs. 71%).

Taking a walk down “Memory Lane” sometimes brings back painful memories but can also reinforce important lessons. Last year was the worst year for stocks since the depths of the Great Recession in 2008 (fourth-worst for the S&P 500 since 1945) and worst year for bonds ever. The year was so bad, Bloomberg said, “one bad year in the stock market has turned Wall Street strategists into bears after two decades of bullishness.” In fact, the average forecast for the 17 firms Bloomberg tracked called for the S&P 500 to decline in 2023, “the first time the aggregate prediction has been negative since at least 1999.”

In summing up 2022, we said:

The pain is real. Pessimism is high. Fear is extreme and understandable. We’re heavily invested alongside you and feel the same emotions. Still, while there are undoubtedly more shoes to drop in 2023 that could cause stocks and bonds to drop further, we believe 1) much of the bad news has already been priced into the market, 2) the regime change from 0% interest rates will finally force investors to focus on company fundamentals and stock valuations and 3) it is difficult times like these that present opportunities for long-term investors in a world obsessed with short-term results.

In May 2020, “headline” inflation as measured by the consumer price index was barely positive, at 0.1% (year-over-year increase). Just over two years later (June 2022), CPI peaked at 9.1%, the largest yearly increase since the early 1980s.

Who knew the CPI would decline in each of the next 11 months, to 4.0% this May? According to Bespoke Investment Group, the 5.1-percentage-point decline in the CPI was the largest trailing 12-month fall since the Great Recession.

If we told you in March 2022 that the Fed would aggressively increase short-term interest rates from 0% to 5% over the next 14 months, the conventional wisdom would have been that stocks and the economy would both be pummeled.

As is often the case, conventional wisdom would have been wrong. In fact, the S&P 500 had a total return of 4.3% from the start of the Fed’s campaign to fight inflation by raising interest rates (March 16, 2022) through June 30, 2023. In addition, the U.S. economy continues to show surprising vigor, with the labor market remaining robust and the first-quarter 2023 growth in gross domestic product recently revised to 2% (from a previously reported 1.3%).

As we’ve stated time and again, the financial markets and economy are impossible to predict due to literally thousands of interrelated factors, even if you have perfect insight into some of the primary inputs, like interest rates.

The S&P 500 had a very strong first half of this year, but it was actually a case of a small handful of mega-capitalization technology stocks doing exceptionally well. According to Bespoke, just 30 of the S&P 500 stocks accounted for more than 95% of the first-half gain (meaning the other 470 stocks accounted for less than 5% of the gain). Apple alone (market value, $3 trillion) accounted for about 18% of the gain. Adding Microsoft (14%), NVIDIA (13%), Amazon (8%), Tesla (7%), Meta Platforms (7%) and Alphabet (7%), this group of seven mega-capitalization technology stocks (1.4% of the stocks in the index) accounted for about three-quarters of the gain the first half of this year.

So, here are three investment lessons reinforced so far this year:

◗ “Experts” are lousy forecasters about the economy and financial markets.

◗ Surprises happen. Silicon Valley Bank failed on March 10, the third-largest bank failure in U.S. history. Many “experts” predicted a global banking crisis, but the S&P 500 had a total return of 15.8% from March 10 to June 30 (meaning almost all the S&P gain this year occurred after Silicon Valley Bank failed).

◗ It’s best to focus on your plan. Whether it was the panics related to the failure of Silicon Valley Bank or the “Sword of Damocles” gamesmanship regarding raising the debt ceiling to prevent a U.S. default, speculators (not investors) had good reasons to move to cash “until the dust settles.” True to form, these speculators would have missed out on the significant returns earned by investors who stayed the course and stuck to their plans. Remember, your investment decisions and reactions to market events will have a significant impact on your personal investment return.•

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Kim is Kirr Marbach & Co.’s chief operating officer and chief compliance officer. He can be reached at 812-376-9444 or mickey@kirrmar.com.