Investment Outlook for 2023—Top Three Things to Watch by Wespath’s Chief Investment Officer

2022 was a challenging year for investors around the world. Stocks and bonds experienced meaningful declines globally, and a seemingly never-ending wave of headlines caused plenty of uncertainty about the health of the U.S. economy.

The primary cause of 2022’s market volatility was inflation and the fear of a recession resulting from aggressive interest rate increases by the U.S. Federal Reserve (Fed) and other central banks to curb inflation. Prices rose across nearly all major economies for various reasons, including continued COVID supply chain impacts and high consumer demand, as well as Russia’s invasion of Ukraine and subsequent energy price shocks. In the U.S., for example, inflation topped 7% on a year-over-year basis for most of the year.

As we begin 2023, it is difficult to predict whether markets will experience the same swings we saw in 2022. However, we can be fairly certain that the key catalysts for market movement will be familiar storylines. Here are three things I believe investors will be watching throughout 2023.

1. Inflation

One of the keys to the inflation story in 2023 will be a focus on the areas of the market that see the highest and lowest inflation. Initially in 2022, we saw extremely high inflation in goods and services that are less significant factors in the U.S. Consumer Price Index (CPI), a measurement of inflation.

Gasoline prices more than doubled at one point during 2022, a shortage of automobiles saw spikes in new and used car prices, and airfares rebounded from their pre-pandemic lows. These inflation trends likely had a more targeted impact on some individuals (those who like to travel) rather than sweeping impacts. However, as of late, higher prices for food and shelter have driven inflation, impacting everyone as these two elements together account for nearly half of U.S. CPI.

Luckily, we are beginning to see some relief as inflation reports later in the year came in lower than expected. Nevertheless, it is still uncertain whether 2023 will bring continued lower levels of inflation.

2. Federal Reserve and Other Central Bank Policies

Building on the previous topic of inflation is, of course, the Fed’s continued response to inflation. We know the Fed is determined to use all available tools to reduce inflation and has steadily increased the rate it charges to banks, or the “overnight borrowing rate,” which ultimately impacts the cost of borrowing across the economy.

While the Fed’s current priority is for inflation to revert to its 2% target on average, there are risks associated with central bank actions to control inflation. Higher interest rates tend to discourage business activity and consumer borrowing, which ultimately leads to slower economic growth. The higher interest rates climb, the greater the risk that economic growth stagnates and ultimately results in economic recession. Hence, investors will be closely watching how global central banks, including the Fed, respond, and the impacts those responses have on economic growth.

3. China’s Evolving COVID Policy

In addition, investors have been closely watching as China begins easing its strict COVID restriction policies.

China is the second largest economy in the world. However, economic growth in China during 2022 was the weakest in nearly 40 years, primarily due to its “Zero COVID” policy—which resulted in greater and more-extended economic shutdowns than those witnessed in other major countries. These lockdowns also impacted other economies, including the U.S., where many supply chains rely on Chinese manufacturers.

By late 2022, China’s population grew weary of Zero COVID and protests ensued. The government relaxed its policies, and investors were optimistic that this change would result in improved supply chains and the release of pent-up demand for consumer products and travel. Over time, the avoidance of shutdowns and additional political unrest should be a positive for economic activity.

No one knows what 2023 has in store for markets. Regardless, we continue to believe investors should stay the course, remain invested, and focus on long-term results. We remind you that Wespath adheres to a consistent, long-term and disciplined strategy for managing a diversified investment program, and remains focused on the financial welfare of our participants, and missions of our institutional investors.