This year has posed an unusual array of challenges for investors, and more could be in store. The major stock market indexes are still up in 2023, powered by a narrow slice of technology stocks, but have been losing ground rapidly. Bond yields have risen sharply, topping 5% on some government debt. The economic outlook is uncertain, the U.S. government has been in turmoil, and wars and conflict are spreading across the globe.<\/p>\n
\u201cRarely have I seen such disarray in the world, with financial markets, politically, and otherwise,\u201d says William Priest, executive chairman and co-chief investment officer at Epoch Investment Partners in New York, and a respondent to our fall 2023 Big Money poll.<\/p>\n
This fall, there is no predominant mood among the professional money managers surveyed by Barron\u2019s<\/em>. Some 38% of Big Money respondents say they are bullish about the prospects for equities in the next 12 months. That compares with 38% in the neutral camp, and 24% who call themselves bears.<\/p>\n The bulls see a 14% rise for the Based on their mean forecasts, the bulls project a 15% gain by the end of 2024 for the tech-heavy index, while the bears expect the Nasdaq to decline 4%.<\/p>\n The latest Big Money Poll closed on Oct. 13 and elicited responses from more than 100 professional investors from across the country. Barron\u2019s<\/em> conducted the poll with the help of Erdos Media Research in Ramsey, N.J. (Complete results are at the bottom of this article.)<\/p>\n High-quality bonds and value stocks have the most fans in our survey. Investors expect a tough year ahead for the more growth-oriented areas of the stock market. Nearly half of poll respondents consider the U.S. stock market overvalued at current levels.<\/p>\n One reason is the recent ramp-up in bond yields, which raises the competition for equities. The Federal Reserve\u2019s policy committee has increased its interest-rate target by more than five percentage points in the past 19 months to cool the economy and bring down inflation, while market forces have pushed up yields on long-term bonds. The yield on the benchmark Yields along the Treasury curve are at their highest levels since before the global financial crisis of 2008-09. It\u2019s a return to the pre-2008 world as far as investors are concerned\u2014not the low-growth, low-interest-rate, low-inflation, growth-stock-dominated decade that ended in 2022, two years after the start of the Covid-19 pandemic.<\/p>\n \u201cThe single most important variable in investing is interest rates,\u201d says Priest, a member of the Barron\u2019s<\/em> Roundtable, whose firm manages about $28 billion. \u201cEarnings may be fine next year and beyond, but it\u2019s the present value of those numbers that\u2019s going to be the problem.\u201d<\/p>\n Two-thirds of Big Money respondents say value investing will outperform growth-stock investing in the next 12 months.<\/p>\n And a majority of Big Money investors predict bonds will provide a higher return than stocks in the coming 12 months. While bonds have become cheaper this year (prices move inversely to yields), stocks remain relatively expensive: The S&P 500 trades for 17 times analysts\u2019 2024 consensus earnings estimate.<\/p>\n On average, Big Money respondents have allocated about 20% of their portfolios to fixed income today. \u201cWe like bonds, especially when looking at equities that are trading at above-average [valuation] multiples,\u201d says Matt Dmytryszyn, chief investment officer at Telemus Capital, with $3.5 billion in assets under management. \u201cIt has been a while since we\u2019ve been able to get this excited about bonds.\u201d<\/p>\n Fixed income might be in greater favor now, but few money managers expect a lost half-decade for U.S. stocks. Indeed, 95% expect to reap a higher return from stocks than bonds in the next five years.<\/p>\n Among fixed-income categories, 40% of managers prefer U.S. Treasuries. They have little credit risk, and yields are at 16-year highs. Another 24% like U.S. investment-grade corporate bonds. Spreads\u2014or the premium yield on riskier bonds over Treasuries or another benchmark\u2014are narrow, given the potential for a recession in 2024, which argues for favoring higher credit quality.<\/p>\n Big Money managers don\u2019t have much duration risk in their portfolios, or sensitivity to changing interest rates. An average of 61% of their fixed-income exposure is in short-term securities maturing in less than three years, and just 8% is in bonds maturing in more than 10 years.\u00a0<\/p>\n \u201cWe\u2019re not sticking our neck out too much on a duration basis,\u201d says Zach Jonson, CIO at Stack Financial Management in Whitefish, Mont. \u201cAn inflation spike or some kind of stagflation can happen, and you just have to be more careful than you normally would with duration.\u201d<\/p>\n It\u2019s hard to argue with yields pushing 5.6% on T-bills or 5.1% on the two-year U.S. Treasury note. As for where to park cash, short-term U.S. government bonds and money-market funds are best, according to the survey results.<\/p>\n Nearly two-thirds of Big Money respondents expect the 10-year Treasury note to yield at least 4.5% a year from now, versus a recent 4.8%. The yield still might rise a bit more before trending lower, some respondents say, while noting that it is at, or close to, levels at which locking in yields for the longer term makes sense.<\/p>\n \u201cIf we can get a Treasury yielding 5% or above for a decade, that\u2019s pretty darn attractive,\u201d says Jack DeGan, CIO at Harbor Advisory in Portsmouth, N.H. \u201cWe haven\u2019t seen that opportunity in portfolios for a long time.\u201d<\/p>\n There is also value in longer-term bonds as a hedge against broader market declines. A broad flight to safety among investors would push bond prices up and yields down.<\/p>\n Investors are split on the odds of a recession in 2024. Some give the Federal Reserve ample credit for managing inflation down without sacrificing the economy, and see a so-called soft landing next year. Others are less sanguine, however, arguing that the impact of higher interest rates has yet to fully hit the real economy and that a recession is a question of when, not if.<\/p>\n Forty-six percent of respondents expect the economy to enter a recession in the next 12 months. But it needn\u2019t be a crisis-level downturn: Just 6% of investors expect U.S. real gross domestic product to contract by 2% or more next year.<\/p>\n \u201cIt\u2019s really hard to generate a big recession when there\u2019s that much money flowing into the economy,\u201d says Harbor\u2019s DeGan, pointing to pandemic-era stimulus spending and newer government programs such as the Infrastructure Investment and Jobs Act. \u201cThe Fed has raised interest rates dramatically, but our economy is less interest-rate sensitive than it has been in my 40 years in business.\u201d<\/p>\n Both consumers\u2019 and businesses\u2019 balance sheets are in good shape, he says, supporting spending but adding to the upward pressure on inflation. Only 15% of Big Money respondents expect inflation, as measured by the consumer price index, to come in at or below the Fed\u2019s 2% target in 2024. Most see the CPI hanging around 4% this year and slipping to 3% in 2024.<\/p>\n David Poarch, of Native American Fund Advisors in Tulsa, Okla., is concerned about sticky or potentially reaccelerating inflation, noting the trillions of dollars of monetary and fiscal stimulus pumped into the economy during and since the Covid pandemic. That flood of money is still working its way through the real economy, he says, despite the Fed\u2019s rate hikes over the past year and a half. \u201cIt\u2019s like the python that ate the pig\u2014the economy needs some time to digest it,\u201d Poarch says.<\/p>\n Stack Financial\u2019s Jonson points to several long-term trends that are inherently inflationary, including the so-called reshoring of supply chains, the costly transition to renewable energy, and aging demographics that are leading to a shortage of labor in many developed markets.<\/p>\n What is the biggest risk facing the stock market? Twenty-eight percent of managers worry most about a potential recession, 26% point to the possibility of higher interest rates, and 16% cite resurgent inflation. This highlights the delicacy of the Federal Reserve\u2019s balancing act. The central bank must tap the brakes on the economy enough to ease the upward pressure on inflation, but not so much as to break things and cause a significant recession.<\/p>\n \u201cThe Fed is right to be proactive and [keep rates] higher for longer, so that inflation doesn\u2019t come back,\u201d says Dmytryszyn of Telemus Capital, headquartered in Southfield, Mich.<\/p>\n Most Big Money managers approve of the Fed\u2019s moves to date, with 62% saying its current policy stance is just right. But half that percentage thinks the Fed has tightened too much and risks pushing the economy into a recession.<\/p>\n Nearly all survey respondents think the Fed is just about done raising interest rates, and that rate cuts could be coming next year. More than 80% predict that Fed officials will lower the current federal-funds target range of 5.25% to 5.50% next year by at least a quarter of a percentage point, while 35% expect rate cuts of more than half a point.<\/p>\n Joe Frohna, founding principal and portfolio manager at 1492 Capital Management, based in Milwaukee, notes that the Fed\u2019s first rate decrease of a cycle historically has followed the central bank\u2019s last hike by an average of 7.5 months. That pattern implies a rate cut sometime around the middle of next year.<\/p>\n \u201cFor the stock and bond markets to work in 2024, you\u2019re going to need the Fed to step out of the way,\u201d says Frohna. \u201cAt a minimum, that means they say they\u2019re pausing, if not [cutting] outright.\u201d<\/p>\n Broader participation in the market beyond the largest stocks would help to extend any rally. The S&P 500\u2019s 9% gain year to date is almost entirely due to advances in a handful of megacap tech stocks including \u201cIt\u2019s hard to get excited about a rally when it\u2019s being led by such a narrow group,\u201d says Todd Jones, CIO of Gratus Capital in Atlanta, with about $3 billion in assets. \u201cThe valuations of the top 10 companies in the S&P 500 are super-elevated versus bottom 490.\u201d<\/p>\n About 60% of Big Money respondents expect small- or mid-cap stocks to outperform large-caps over the next 12 months. The Weatherly Asset Management\u2019s Carolyn Taylor is sticking with Big Tech stocks for now, and waiting for better opportunities to present themselves. These companies have pristine balance sheets and wide competitive moats, and generate a ton of free cash flow, she notes. Should rates fall, however, more-speculative areas in the technology sector could become more attractive, namely shares of the fast-growing but richly valued companies expected to generate the bulk of their profits far in the future.<\/p>\n \u201cWe have dry powder in the form of cash and short-term fixed income and are a bit lighter than usual on equities,\u201d says Taylor, whose Del Mar, Calif.\u2013based firm manages about $1.2 billion. \u201cSo, if we do have a recession and the Fed starts to cut interest rates, we have the ability to shift.\u201d<\/p>\n Epoch\u2019s Priest is also bullish on Microsoft and Alphabet, both plays on 2023\u2019s hottest investing theme: artificial intelligence. \u201cThey\u2019re going to win with AI,\u201d he says. \u201cFrom a long-term investment perspective, you want to be exposed to those.\u201d<\/p>\n Nvidia stock has rallied more than 175% this year, also fueled by enthusiasm for AI. But the stock isn\u2019t so popular with the Big Money crowd: 29% of managers call it the market\u2019s most overvalued stock. Nvidia sports a price\/earnings ratio of 27 times the next year\u2019s estimated earnings.<\/p>\n Energy stocks are Big Money investors\u2019 favorite sector for the year ahead, designated as such by 33% of respondents. They like the sector for its relatively discounted valuation, high cash-flow yields, and generous dividend and share-buyback policies. Exposure to a potential spike in oil and gas prices also makes energy a defensive play.<\/p>\n Poll respondents see West Texas Intermediate, the U.S. benchmark oil price, rising to $91 a barrel in a year from the mid-$80s today. \u201cEnergy is both cheap and attractive as a hedge,\u201d says Jonson, whose firm has about $1.8 billion in assets under management.\u00a0<\/p>\n Gratus\u2019 Jones\u00a0 also likes midstream energy companies for their dividends and contractual cash flows tied to the volume of oil and natural gas that flows through their pipelines. Midstream companies include Higher interest rates and bond yields have weighed on other income-generating assets, including dividend stocks. DeGan sees opportunities in the shares of quality companies with durable businesses that have seen their valuations fall and dividend yields rise this year. He points to Plenty could go wrong for the markets and world in the next year. For investors in stocks and bonds, a focus on attractive yields and undervalued assets seems like a sensible game plan.<\/p>\n
\n S&P 500 index
\n by the end of 2024, and a 12% gain by the
\n Dow Jones Industrial Average.<\/span>
\n The bears forecast losses of 3% for the S&P 500 and 2% for the Dow.<\/p>\n
\n 10-year U.S. Treasury note
\n approached 5% this month, up from a paltry 0.5% at its pandemic-era low.<\/p>\n
\n Apple
\n (ticker: AAPL),
\n Nvidia
\n (NVDA),
\n Microsoft
\n (MSFT), and
\n Alphabet
\n (GOOGL).<\/p>\n
\n iShares Core S&P Small-Cap
\n exchange-traded fund (IJR) and the
\n SPDR S&P MidCap 400
\n ETF (MDY) are ways to play the market\u2019s smaller stocks.<\/p>\n
\n Williams Cos.
\n (WMB), which yields 5.2%;
\n Oneok
\n (OKE), yielding 5.7%; and
\n Kinder Morgan
\n (KMI), yielding 6.7%.<\/p>\n
\n Brookfield Infrastructure Partners
\n (BIP), with a 6.7% yield;
\n Pfizer
\n (PFE), paying 5.4%; and
\n NextEra Energy
\n (NEE), yielding 3.4%.<\/p>\nThe Markets<\/h2>\n<\/p><\/div>\n