Q1 2023 Quarterly Market Update

By Chris Duderstadt

April 3, 2023

Q1 2023 Quarterly Market Update

Key Points – Q1 2023 Quarterly Market Update

  • What Should We Take Away from Q1 2023?
  • Looking Back at 2022
  • And Looking Ahead at the Balance of 2023
  • 8 Minutes to Read | 16 Minutes to Listen

Our First Quarterly Market Update: Looking at Q1 2023

We’re constantly thinking about how to keep people updated about things that can impact their retirement. It’s important to us that you’re making informed financial decisions so that you can live your one best financial life. So, we’ve decided that we’re going to start sharing quarterly market updates from Dean Barber and Bud Kasper. Let’s get right into it with our Q1 2023 quarterly market update.

Comparing Q1 2023 to Q1 2022

As we break down what happened in Q1 2023, let’s compare it to what happened in Q1 2022. It was different in a multitude of ways. Thinking back to Q1 2022, inflation was thought to be transitory by Federal Reserve Chairman Jerome Powell. Well, we know now that the Fed was wrong about that. The Fed continued raising interest rates in Q1 2023 with 0.25% hikes in February and March. That puts the Fed funds rate range at 4.75-5%. What will the Fed do going forward? There’s speculation that the Fed is nearing the end of its rate hike cycle.

The Bank Failures in Q1 2023

One of the things that has transpired due to the continued rate hikes have been the major bank failures that we saw in Q1 2023. Silicon Valley Bank and Signature Bank failed and Credit Suisse was bailed out and purchased by UBS. Dean thinks that there could be more of that to come in the banking sector.

Debt Here, Debt There, Debt Everywhere

All this is happening at a time when consumer debt is at a record high. Automobile debt is at a record high. And we’re seeing the default on automobile debt continue to rise. It’s nearly at 13%. Our government deficit spending continues to increase.

“From an economic perspective, companies are announcing large layoffs and people are losing their jobs. Yet the economy seems to keep chugging along and inflation doesn’t seem to be coming down. One of the factors of why it’s not coming down yet is because it typically takes about 12 months from the time that the Fed increases interest rates for it to be felt in the economy. We’re just now starting to feel the effects of the first rate hikes.” – Dean Barber

Let’s Take a Look at the Fed’s Moves from Q1 2022 to Q1 2023

Bud said way back in the fall of 2021 that the Fed should’ve started raising rates then rather than waiting until March 2022. Instead of having to do four consecutive 0.75% increases, Bud wishes they would’ve started the hikes earlier so that they could’ve stuck with 0.25% or 0.5% hikes.

It was March 2022 that they made their first 0.25% move, suggesting that inflation was going to be transitory. Next meeting, the went with a 0.5% hike. Then, they went with the four straight hikes of 0.75%.

“That seemed a little desperate to me that they had to do that with such consistency. And as Dean stated, I don’t think we’ve seen the full brunt of that. We could be throwing ourselves into a position where the inflation factor isn’t going to be as under control as they’re hoping it will be. The Federal Reserve has a target inflation rate of 2%. But quite frankly, I’ve thought that 2% has been an unrealistic number. Dean and I have spent most of our lives with a 3-4% inflation factor. I think the economy can live with that, but we’re on this path, it can get a lot worse.” – Bud Kasper

What Happened in the Markets in Q1 2023?

On the bright side, we did see some decent things in the capital markets in Q1 2023. By no means has it been a straight line. The worst performing index of 2022 has been the best performing index in 2023. That’s the NASDAQ. It’s up by about 13% in 2023. But remember, the NASDAQ was down by more than 30% in 2022.

The “darling” last year of the major indexes was the Dow Jones Industrial Average, but it was still the best of a bad bunch. It lost the least at around 9%, but it’s now at -1.62% so far in 2023. The S&P 500 was right in the middle and is up about 4.5% so far this year.

What’s Going on with the 10-Year Treasury?

The big difference that we saw the yield on the 10-year treasury drop during Q1 2023. At the beginning of the year, it was at 3.8%. It’s dropped to about 3.6%. And that’s during a period where the Fed has raised interest rates by 0.5%.

“I think that the drop in the 10-year treasury had a lot to do with the Silicon Valley Bank and Signature Bank failures. I believe that the markets thought when Silicon Valley Bank failed that it would force the Fed to stop raising rates. Therefore, we get a downward pressure on the yield of the longer-term treasuries.” – Dean Barber

It frustrates Bud that the government is supposed to be the overseer of the banking system, but this is still happening. The big banks have a different level of standards that they must meet compared to the regional banks. The difference with how the banks are being monitored has become very apparent with the bank failures we’ve seen.

“I think that it’s shameful that the government hasn’t stepped into the regional banks, which could be very nicely run and profitable. We get these outliers because the government isn’t coming into do the monitoring checks that they need to do.” – Bud Kasper

A Bad Combo for Banks

Mismanagement has been a big issue with the banks. But that mismanagement was exacerbated by the rapid increase in rates.

During one of Dean’s CEO meetings that I had in March, they conferenced in the president of one of the larger banks in Kansas City. He talked with them about what happened with Silicon Valley Bank, so let’s have Dean sum up what he learned.

“Most of Silicon Valley Bank’s customers were corporations. It wasn’t mom and pop putting a bunch of money into a CD. They were mostly tech companies with millions of dollars. They used it almost like a checking account—doing payroll, RMDs, and all these things. It’s a constant flow of money. Well, to make money, Silicon Valley Bank needed to put that money to work some place.” – Dean Barber

Powell’s Choice Between Killing Inflation or Financial Institutions

When putting those deposits to work, the average duration of the treasuries that they invested in was about seven years. Let’s back up to the onset of COVID. On March 19, 2020, the yield on a 10-year treasury was around 1.1%. Nearly years later, that 10-year treasury was around 4% on March 2, 2023.

“So, imagine if you would’ve purchased a 10-year treasury that was yielding 1.1% in March 2020 and were forced to sell it in a market where someone could be a 10-year treasury at 4%. Nobody will want the treasury from March 2020. It wasn’t that they stole the money or did something wrong. When depositors started taking money out, they were going to be forced to liquidate longer-term treasuries at significant losses. Their value declined because of the rapid rise in interest rates.” – Dean Barber

People were saying that Jerome Powell had a tough choice killing financial institutions or killing inflation. Powell’s been adamant that he wants to kill inflation at all costs.

“The Fed’s mistake was not hedging the portfolio of treasuries. You can make options outside those to neutralize the impact of the falling price in the bond market. They aren’t stupid people—or least I hope not. There were other banks that had similar situations, but they hedged their portfolios.” – Bud Kasper

Another Thorn in the Banking System’s Side

The other problem that’s going to plague the banking system for quite some time is all the refinancing that’s been done on commercial and residential lending for homes, businesses, etc. Dean has talked to people who have a 2.75% 30-year mortgage. Do you think they’re ever going to pay that off? What are we going to do if the banks are paying 5% when they’re only making 2.75%? It’s going to create a long-term issue.

“While the economic expansion and inflation continued in Q1 2023, we’re seeing signs that it’s beginning to crack. If it’s a 12-month lag from when the Fed raises rates, we’re just now feeling the impact of them. As the additional aggressive rate hikes that took place in 2022 impact the overall economy, I think the Fed is going to be walking a tightrope to keep the economy moving forward in such a way to where it doesn’t kill the American consumer.” – Dean Barber

You Can’t Just Say P/E Is P/E

Like we briefly touched on earlier, there was some stock market resiliency even with the pressure from the Fed. That’s especially the case when you compare it to 2022. Last year, we saw a 40-year low in the bond market. It was down 13.3% while the S&P 500 was down about 19% and the NASDAQ was down more than 30%.

When you look at stocks and major indexes, you need to understand valuations. You need to understand whether those valuations at current levels can be sustained. The valuations that are acceptable in a 0% interest rate environment are totally different than the valuations that are acceptable at 4.75-5%.

“It’s not as simple as looking at a P/E ratio and saying it’s a fair P/E ratio. You need to base it on the risk-free return of the 10-year treasury. You can’t just say that P/E is P/E.” – Dean Barber

Looking at the Unemployment Factor

We also know from an unemployment standpoint that there have been a lot of jobs available, but not enough people to fill them. We have a weird situation going on right now, but we’re starting to see it change. When we start to see things even out a little bit, we might be able to get more stability back in the market.

However, we have the debt ceiling on top of us, which is critical. America can’t default on its bonds. That would be catastrophic.

“We do know this, though. Every bear market is followed by a bull market. That’s a fact. So, when is this bear market going to end? Are we in the beginning stages of the new bull market based on what’s happened in Q1 2023? My sense is that this is simply a bull market run within a longer-term secular bear market. There are more things that need to be washed out. Nobody knows exactly what’s going to unfold or what’s going on.” – Dean Barber

Final Takeaway of Q1 2023: Be Cautiously Optimistic

With Q1 2023 behind us, Dean and Bud urge you to be cautiously optimistic going forward. They want you to be ready to deploy more capital into equities as it becomes clear that the Federal Reserve has beat inflation and will no longer raise rates. That will be the catalyst.

“People need to be optimistic, but not overly optimistic. I agree with being cautiously optimistic. Some people are saying that it’s down significantly and that we should be piling into it because it could be two times its worth a year from now, just as an example. You need to be cautious about that.” – Bud Kasper

That being said, Bud believes that we are going to have a recession if we aren’t already in one right now. If the economy slows, that means corporate earnings are going to slow as well. When you’re forecasting forward-looking P/E, it’s based on what corporations are saying today. If they miss those estimates, then the P/E is still too high. That’s why it’s important to have cautious optimism.

“I don’t think there’s any way that Bud and I could say today that we’re going to go back to where we were at the end of 2021 by the end of this year. It’s certainly possible. The markets are a weird animal and don’t always act logically. We could go into a scenario where bad news for the economy is good news for the market. The market would then think that it’s done fighting with the Federal Reserve and that the Federal Reserve can serve as a backstop again like it has for the most part since 2008. Only time will tell, though.” – Dean Barber

Stay Tuned for Our Q2 2023 Quarterly Market Update

We hope that this Q1 2023 quarterly market update was informative for you and are looking forward to sharing future quarterly market updates with you. Remember that when times are so uncertain like they are right now, it’s critical to go back to your financial plan to get clarity on your situation.

And if you don’t have a financial plan, that’s where it all starts. You can get a better sense of where you stand from a financial planning perspective right now and where you can expect to be going forward by starting to build your financial plan with our industry-leading financial planning tool. This isn’t like a retirement calculator that doesn’t factor in important things such as your retirement goals. You can begin building your plan at no cost or obligation by clicking the “Start Planning” button below.

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Best Wishes for You in Q2

We hope that all is well with you as we begin Q2, but if you have any questions about Q1 or the rest of 2023, let us know. You can ask us your questions during a 20-minute “ask anything” session or complimentary consultation with one of our CFP® Professionals. Simply click the “See Our Schedule” button below to schedule a meeting with us.

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The setting of the meeting is whatever you’re most comfortable with, whether that’s in person, virtually, or by phone. We hope to hear from you soon and are already looking forward to giving you the quarterly market update for Q2 2023.

Investment advisory services offered through Modern Wealth Management, LLC, an SEC Registered Investment Adviser.

The views expressed represent the opinion of Modern Wealth Management, LLC, an SEC Registered Investment Adviser. Information provided is for illustrative purposes only and does not constitute investment, tax, or legal advice. Modern Wealth Management, LLC does not accept any liability for the use of the information discussed. Consult with a qualified financial, legal, or tax professional prior to taking any action.