One year ago, if you believed the headlines, we were about to fall off the fiscal cliff, get burned by a global currency war, watch the eurozone sink into depression and/or get bruised by China’s hard landing. Yet here we are, with the US economy bigger, currency markets not in chaos, the eurozone growing and China afloat. Stocks, too, surprised—consensus forecasts earmarked an 8.2% gain for the S&P 500, yet as of December 30, it’s up 29.5% year to date. How’d it happen? Simple: Reality beat expectations. The global economy grew, firms stayed profitable, and many fears proved false—something investors should keep in mind as 2014 kicks off with a new round of fears.
Not convinced? Consider these 13 big bad things that didn’t happen in 2013. All were widely feared to tank the economy or markets, and all fizzled.
The sequester didn’t kill the US economy. The automatic budget cuts that took effect in March were supposed to destroy one million jobs and cause GDP to fall 0.7%. Neither happened. The US economy added 1.6 million jobs from March through November, and GDP grew 2.5% in Q2 and 4.1% in Q3.
The payroll tax hike didn’t whack consumer spending. When the two-year payroll tax holiday expired, raising the tax from 4.2% to 6.2%, the average American worker was supposed to earn $1,000 less than in 2011, and consumer spending was supposed to suffer. And workers did get less take-home pay! Yet consumer spending rose all year and, after initially taking a small hit, disposable income finished Q3 above 2012’s level. Incidentally, a recent research report discovered cheaper energy prices offset much of the tax hike’s impact on US households.
China didn’t have a hard landing. For the third year running, Chinese growth was supposed to plummet, taking the world economy with it. Yet it held up fine, just like 2011 and 2012. Sure, growth is slower than the double-digit days of yore, but in dollar terms, the amount added to global GDP is about the same.
Currency wars never erupted. When Japan’s yen started weakening, it was supposed to be a cannon shot in a currency war—a race for other exporting nations to devalue their currencies in an attempt to keep their exports competitive, in the process destabilizing global currency markets. Except no one took the bait. Taiwan and Korea, Japan’s biggest regional competition, didn’t weaken their currencies, and neither did any of the world’s major economies. Trade held up fine, too. The yen is down 19.4% on the dollar year to date, and Japan’s exports are up, but so are Korea’s (and most everyone else’s).
Rising rates didn’t kill the housing recovery. When mortgage rates rose for the first time in ages in January 2013, folks worried about the impact on home sales. Yet as rates rose throughout the year, mortgage demand stayed healthy, and the housing recovery continued—rates were still incredibly cheap by historical standards, and the modest upticks encouraged banks to lend more eagerly. In other words, mortgage demand stayed firm, supply rose, and overall mortgage lending continued rising.
QE infinity didn’t cause runaway inflation. The Fed’s quantitative easing (QE) added over $1 trillion more to the monetary base this year. But inflation slowed. Why? Banks didn’t lend enthusiastically, so broader measures of money didn’t rise at anywhere near the same rate. On the downside, that also weighed on economic growth—the sooner QE ends the better!
The eurozone didn’t sink. The eurozone economy was supposed to plunge into the abyss this year. Instead, it returned to growth! It isn’t gangbusters, and it’s uneven, but it’s growth. And while weak recovery and double dip fears persist, Leading Economic Indexes suggest growth should continue.
Affordable Care Act implementation didn’t wreak havoc on markets—much like its passage, its challenge in the Supreme Court and the reelection of President Obama. The health care exchange launch was chaotic and parts of the law don’t resemble the rhetoric around it, but markets didn’t seem to mind. Nor did the new investment income taxes that took effect this year take a bite out of stocks.
The UK didn’t triple dip (or even double dip). Without fresh QE, the UK economy was supposed to implode in 2013. But it didn’t triple dip—GDP turned positive in Q1 and accelerated in Q2 and Q3. And the 2012 double dip was revised away! Heading into 2014, most now see the UK as one of the developed world’s strongest economies.
The dollar didn’t lose its status as the world’s reserve currency (again). This evergreen fear surfaced again in 2013 but proved as feckless as ever. Even as China called for another currency to supplant the dollar, Beijing increased its US Treasury holdings.
Corporate earnings didn’t fall. “Profits look set for a fall,” said some observers. But they didn’t. Some sectors were stronger than others, and headline growth was tepid, but aggregate S&P 500 earnings and revenues per share grew all year. The Fed’s broader measure of corporate profits pulled back a bit in Q1, but stormed back in Q2 and Q3 and currently sits at all-time highs.
Central banks didn’t run out of bullets. They fired a few too many (ahem, QE), but they didn’t run out. They have plenty left in their toolkit, including all the boring, tried-and-true policies they’ve shunned since 2008. Moreover, the UK proved extraordinary monetary policy isn’t necessary for faster growth—a good thing for investors to remember as US QE starts winding down next month and the eurozone keeps muddling through.
The bond market didn’t have a bloodbath. Rising rates were supposed to maul fixed income investors, but while bonds didn’t have the greatest year on record, they didn’t crash either, and issues with shorter duration held up relatively well. In our view, 2013’s bond volatility just served investors a timely reminder: No asset class is “safe”—all carry the risk of loss, especially in the short term. Bonds are a useful way to reduce a portfolio’s expected volatility, but investors should have the right expectations.
False fears are bullish—worries lower expectations, creating room for reality to be a positive surprise. This is a powerful force for stocks, and one we expect to continue in 2014.