Stocks Suffer Worst Quarter Of 2023 As Good Vibes Dry Out

Topline

All three major stock indexes closed dismal worst quarters on Friday, erasing much of the gains from the first half as investors snapped out of their growth-friendly sentiments fueled by artificial intelligence daydreams and paid heed to a litany of potentially worrisome macroeconomic conditions.

Mixed-at-best economic data rained on bulls’ first-half parade.

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Key Facts

The S&P 500 (down 3.7% from July 1 through Friday’s close), Dow Jones Industrial Average (down 2.7%) and tech-heavy Nasdaq (down 4.1%) each suffered their worst quarterly losses since last year’s third quarter.

All three major indexes remain up this year despite the slump.

Losses were concentrated strongly in September due to mounting evidence that interest rates will remain higher for longer than many initially hoped, coming after stocks enjoyed a strong expansion to open 2023.

Among the bearish headlines this month which affected stocks were the Federal Reserve’s revised projections that interest rates will remain elevated far longer than previously expected, bond yields’ surge to their highest levels since 2007 and crude oil prices’ jump to 11-month highs, potentially front-running a further rise in gas prices which could hinder inflation from slipping to the Fed’s 2% target.

Energy was by far the best-performing sector as oil drilling and refinery stocks enjoyed higher crude input prices; the popular XLE exchange-traded fund gained 11% this quarter and five of the S&P’s seven top returners were oil stocks, according to FactSet data.

But perhaps most notably, it was a down period for the “magnificent seven” large technology stocks behind much of this year’s prior gains thanks to rapidly expanding valuation multiples: The grouping lost some $438 billion in market capitalization, largely due to a 12% slide from Apple, the world’s most valuable company.

Crucial Quote

So why the sudden shift in stock returns? Sevens Report analyst Tom Essaye emphasized in a Thursday note because of economic data’s importance in market movements, the change came because up until last month, data indicated no signs of a broader slowdown and declining inflation, but “since August, the data has become more mixed (but not outright negative) and as a result of that mixed data, we have seen stocks appropriately decline.” Essaye noted he expects “choppy” trading until “the data does begin to break one way.”

Contra

Despite the recent shattering of bulls’ confidence, Q3 featured one notable growth-friendly milestone: the return of the initial public offering. Earlier this month, British chip designer Arm became the largest company to go public since November 2021, while grocery delivery firm Instacart and automated marketing service Klaviyo also went public at roughly $10 billion valuations.

What To Watch For

The Fed’s Open Markets Committee will conduct a pair of meetings during the fourth quarter, concluding November 1 and December 13. Fed staff’s median projections call for one 25 basis-point rate hike this year, and the futures market prices in a roughly 35% chance of a 2023 increase, according to CME Group data.

Surprising Fact

The fourth quarter has been the friendliest period for stocks historically – BlackRock research found the S&P has risen an average of 4% during Q4 since 1957, by far the strongest return of any quarter.