December 2023 Stock Market Forecast (2024)

The S&P 500 resumed its march higher in November as investors have become increasingly optimistic that the Federal Reserve will not raise interest rates again this cycle.

With a 9.1% gain in November, the S&P 500 closed off the month on a high note as the latest economic data points indicate the economy remains on solid footing. The U.S. consumer is strong and inflation is trending steadily lower.

After its November gains, the S&P 500 is now up 20.8% year-to-date. Unfortunately, analysts and economists anticipate U.S. economic growth will slow significantly in coming quarters. Investors are hoping the market can continue its bullish momentum in December, a month that has historically been one of the strongest of the year for the S&P 500.

Is the Fed Done Hiking Rates?

The two key market catalysts that have gotten the most headlines in the past year will remain front and center in December: inflation and interest rates.

The consumer price index gained 3.2% year-over year in October, down from peak 2022 inflation levels of 9.1% but still well above the Federal Reserve’s 2% long-term target.

In a speech at an International Monetary Fund event in November, Federal Reserve Chair Jerome Powell said the Federal Open Market Committee is committed to tightening monetary policy enough to reach its 2% inflation target and is “not confident that we have achieved such a stance.” However, Powell said the Fed is now positioned to take a more cautious approach to policy changes to minimize risks to the labor market and economy.

“My colleagues and I are gratified by this progress but expect that the process of getting inflation sustainably down to 2% has a long way to go,” Powell said.

When Was the Fed’s Last Rate Hike?

The FOMC raised interest rates by 25 basis points in July. That was its eleventh rate hike since March 2022. However, it has not raised rates since then. Powell said current policies are “significantly restrictive” but acknowledged inflation is still “well above” where the Fed would like it to be.

Jeffrey Roach, chief economist for LPL Financial, says investors shouldn’t be spooked by a U.S. economic slowdown in coming quarters. “The anecdotal evidence suggests the Fed is getting what it wished for—an economy experiencing a painless, measured slowdown,” Roach says.

He says the Fed’s latest Beige Book survey of businesses indicates a broad labor market slowdown and a decline in starting wages for unskilled workers in several areas of the country.

The Beige Book characterizes changes in U.S. economic conditions.

“As pricing pressures will likely ease further in months ahead, markets can reasonably expect the Fed to pause until the middle of next year when the Fed could modestly cut rates,” Roach says.

The bond market is currently pricing in a 99.2% chance the Fed will maintain its current fed funds target rate range of between 5.25% and 5.5% in December, according to CME Group.

U.S. Recession Watch

Many economists and retail sector analysts entered the fourth quarter fearful that rising consumer debt levels and interest rates would weigh on U.S. consumer spending this holiday shopping season.

Fortunately, spending during key Thanksgiving weekend shopping events suggests U.S. retailers could put up some impressive fourth-quarter sales numbers.

American shoppers spent a total of around $38 billion online during Thanksgiving weekend, with online consumer spending up 7.8% year-over-year from Thanksgiving Day through Cyber Monday.

U.S. consumers seem healthy for now, but the Fed is reaching a critical point in its battle against inflation. The next couple of months could determine whether or not it can navigate a so-called soft landing for the U.S. economy without tipping it into a recession.

Some Signs of a Recession Are There; Some Aren’t

In recent months, U.S. credit card delinquency rates and balances have risen and savings rates have dropped. In addition, the U.S. Treasury yield curve has been inverted since mid-2022, a historically strong recession indicator.

The U.S. labor market has softened but isn’t yet showing signs a recession is imminent. The Labor Department reported the U.S. economy added 150,000 jobs in October, missing economist estimates of 170,000 jobs added. U.S. hourly earnings were up 4.1% year-over-year, and the unemployment rate remains historically low at just 3.9%.

The futures market is currently pricing in two Fed rate cuts in the first half of 2024, but DataTrek Research co-founder Nicholas Colas says investors shouldn’t necessarily be concerned about a recession.

“Assuming modest rate cuts in [the first half of] 2024 may or may not be wise, but they are certainly not a signal that a recession is just around the corner,” Colas says.

He says the pace of Fed rate cuts says a lot about the health of the economy, and slow, measured rate cuts aren’t necessarily a red flag.

“Recessions see the Fed cut aggressively, not calmly whittle away at short term rates,” Colas says.

The Chances of a Recession in 2024

The New York Fed’s recession probability model indicates there is a 46.1% chance of a U.S. recession sometime in the next 12 months.

Chris Zaccarelli, chief investment officer at Independent Advisor Alliance, says robust 5.2% U.S. GDP growth in the third quarter is the latest sign the economy is healthy.

“Investors—and the general public—seem to be much more focused on inflation than on economic growth, so there is a glass half empty attitude, but this economy continues to frustrate all of the naysayers,” Zaccarelli says.

“Given the positive economic backdrop, we believe the market will rally until the end of the year and we should have a good start to 2024—the exact opposite of what many believed as recently as this summer.”

Earnings Rebound

High interest rates increase borrowing costs for consumers and corporations, weighing on economic growth and profitability. However, have still managed to grow earnings by 4.3% in the third quarter compared to a year ago, the first quarter of positive earnings growth in a year. In fact, 82% of S&P 500 companies have reported actual earnings that exceeded analyst estimates in the third quarter.

Some market sectors are experiencing more of an earnings bounce than others, however.

Communication services sector earnings are up 42.4% in the third quarter, while consumer discretionary sector earnings are up 41.8% from a year ago. Materials sector, health care sector and energy sector earnings are down more than 10% each in the quarter.

Looking ahead to fourth-quarter reports, analysts are calling for S&P 500 earnings to increase 2.9% compared to a year ago. Analysts are also projecting S&P 500 earnings growth will accelerate in the first half of 2024. They forecast 6.5% earnings growth in the first quarter and 10.4% growth in the second quarter.

How To Invest in December

While the economic outlook for 2024 remains uncertain, there are reasons for investors to be optimistic in December and beyond.

Investors will be paying particularly close attention to the “Santa Claus Rally” period, the seven-day stretch starting with the last five trading days of the calendar year and carrying over to the first two trading days of the next calendar year.

The S&P 500 has historically generated strong returns during this seven-day period, which begins this year on December 22 and extends to January 3. Since 1950, the S&P 500 has averaged a 1.3% gain during the seven-day Santa Claus Rally period.

Investors concerned about the potential for a U.S. economic slowdown can take a more defensive approach to the market and increase their financial flexibility in 2024 by dialing back exposure to stocks and increasing their cash holdings.

Investors can already earn 5% or higher in online savings accounts heading into December, and those interest rates will likely remain elevated for at least the next several months.

Growth Stocks vs. Value Stocks

Value stocks have historically outperformed growth stocks when interest rates are high, and growth stocks lagged value stocks by a wide margin in 2022. However, that trend has reversed in 2023 as investors anticipate an end to rate hikes and a potential Fed pivot to rate cuts in the first half of 2024.

The Vanguard Value ETF (VTV) has generated a total return of just 1.8% year-to-date, while the Vanguard Growth ETF (VUG) has generated a total return of 38.8%.

James Demmert, chief investment officer at Main Street Research, says artificial intelligence will remain a key stock market theme heading into 2024.

“We are at the beginning of a new bull market led by AI. We favor AI technology plays and are overweight the companies that make AI work, such as Nvidia (NVDA) and Advanced Micro Devices (AMD), along with companies that can benefit from AI, such as Microsoft (MSFT), Alphabet (GOOGL) and Meta Platforms (META),” Demmert says.