The Bull-and-Bear Case for 2023

It’s not a completely boldfaced call. Deutsche Bank sees a mild recession arriving by the third quarter of next year. The downturn will affect most consumers, home-sellers and, ultimately, corporate profits — but it will only last a few quarters before some semblance of growth returns.

What could lift markets next year is a shift by the Fed. If the U.S. central bank starts to tap the brakes on rate increases in 2023, stocks could rally. (Many bulls on Wall Street believe the Fed will cut rates in the latter half of the year as inflation eases, despite zero indication from Fed chair Jay Powell that it will do any such thing.)

Rob Dent and Aichi Amemiya, economists at Nomura, see another factor influencing Fed policy in 2023: politics. The Biden Administration has been largely quiet throughout 2022 as the central bank raised the prime lending rate to a target range of 4.25 to 4.5 percent from essentially zero a year ago. That silence could come to an abrupt end, particularly if aggressive monetary policy forces employers to cut jobs.

“The criticism from Congress will likely intensify next year as job losses start,” the economists wrote in a recent investor note. “Powell’s hawkish commentary so far has been easier to maintain in an environment with historically low unemployment rates, but that will likely become more difficult once the labor market deteriorates. His semiannual testimony before Congress in February will likely be contentious.”

For those who believe in holiday miracles, the last trading week of the year has historically been a winner for stocks. “The Santa rally,” as Wall Street veterans call it, covers the seven trading days that follow Christmas when the S&P 500 typically outperforms its historical rolling seven-day average. The most bullish see the Santa rally as an indicator of future returns well into the new year.

The glass-half-full scenario: There are a few whales still buying stocks. Corporations executed a record $1 trillion worth of share buybacks this year, according to Goldman Sachs.

The glass-half-empty view: Corporations won’t keep up that pace next year, Goldman added.

Ms. Shalett of Morgan Stanley also predicts a dud of a year for stocks. But unlike many of her peers, she sees the U.S. avoiding recession, as resilient consumers continue spending and companies reinvest to keep the economy growing just enough to avoid a slowdown. “The implication of that is inflation is higher for longer, and the Fed is higher for longer,” she added, which explains why stocks will be under pressure as corporate profits slump by 10 to 15 percent.

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