With the market's tumultuous 2022 drawing to a close, December is the last stepping stone to go. The month is traditionally a strong one for the market, with the force of holiday spending driving returns.
But this hasn't been an average year, and the market is down by almost 16%. Will December herald another chapter of gloom in the bear market, or will the Santa Claus rally give way to a blistering start to 2023? In my view, a scenario that's somewhere in the middle of those two is the most likely. Here are three predictions that indicate why -- and what to do about them.
1. The Federal Reserve will set the tone for 2023
My biggest prediction for December is that the Federal Reserve will continue to be the single largest influencer of the market as a result of its ongoing mission to stem inflation by increasing the Federal Funds rate. Raising the Federal Funds rate increases the cost of borrowing money, which in turn influences the amount of liquidity in the economy, not to mention stock prices. So far, the trend has been for stocks, especially risky growth stocks, to fall when rates rise, as growth-phase companies are the ones most likely to need to take out debt to finance their expansions.
The question is whether the Fed will continue to raise interest rates at the same tempo as it preferred for most of 2022, or at a different pace. Take a look at this chart:
Effective Federal Funds Rate data by YCharts
As you can see, so far the Fed's hikes haven't caused the core inflation rate to decline. That implies they'll probably prefer to keep hiking at a rapid pace for a while longer, rather than slowing down. The takeaway for investors is to expect growth stocks to keep getting hammered for as long as inflation looks to be unimpeded.
For most people, it probably makes sense to avoid starting new positions in unprofitable companies unless you can tolerate sitting on losses for a while, especially if they aren't growing their top lines very rapidly. Remember, you can always buy shares of a market-tracking fund, like the SPDR S&P 500 ETF Trust, if you want to avoid taking on risks that are significantly different from those facing the entire market.
2. Inflation will take a bite out of (some) retailers and luxury brands
A second prediction about the stock market in December is that consumer-facing retailers and purveyors of pricey lifestyle products will start to feel the sting of inflation as it makes consumers more conscious about their purchasing activities. When people's wallets are feeling a bit light, luxuries are the first thing to go, whereas must-have goods like medicines, rent, and staple foods are the last to get cut from the household budget.
In that vein, investors should expect businesses selling expensive and relatively frivolous products -- like Tesla and Peloton -- to suffer, even with the bump from anticipated holiday sales on the way.
For investors, the logical move is to keep buying shares of all-weather businesses that make products people need regardless of what's going on in the economy.
Some companies will benefit as people look for places to make their dollars go further. In particular, low-cost sellers of bulk goods like Costco are apt to flourish, as the company's warehouses offer better deals than are available elsewhere. Furthermore, companies that don't sell directly to consumers are likely to be insulated from the effects of inflation. Don't expect people to suddenly need fewer medicines made by players like Vertex Pharmaceuticals, even if inflation trends higher.
3. Ongoing events in China will have negative effects
China is one of the centers of gravity in the global economy, and anything that significantly affects its economic output will cause cascading consequences pretty much everywhere else.
Enter the country's zero-COVID policy, wherein the public health initiatives being pursued with the aim of minimizing its coronavirus caseload come at the cost of temporarily shuttered factories and disrupted workplaces. Frequently, those stalled factories are intended to be making high-tech goods for companies like Apple, which maintains major manufacturing partners in China.
The closures have already led to Apple being able to ship fewer iPhones than it planned this year, and it's far from the only business affected. As the market hears more about exactly how much damage to expect to Apple's sales, it could become a problem for shareholders.
In the short term, there's not too much that investors can do, other than to be aware that there's likely more turbulence to come. In the long term, it might make sense to invest in companies that are less exposed to the risk of disruption in China, though it's presently unclear whether the zero-COVID policy will continue indefinitely or not.
