Global stock markets recorded their strongest year since 2019 following a blistering two-month rally, as investors bet that big central banks have finished raising interest rates and will cut them rapidly next year.

The MSCI
World index, a broad gauge of global developed market equities, has surged by 16 per cent since late October and is up 22 per cent this year — its best performance for four years.

That has largely been fuelled by Wall Street’s benchmark S&P 500 index, which has risen 14 per cent since October and 24 per cent on the year, ending the last trading day of 2023 just shy of its all-time record.

The gains have been driven by a dramatic shift in interest rate expectations following a slew of recent data showing inflation falling faster than expected in Western economies.

The growing consensus that borrowing costs will fall sharply in 2024 has also sparked a bond market rally, attracting investors to equities as they seek higher returns.

The United States Federal Reserve boosted the trend in mid-December when its policy projections signalled substantial rate cuts next year.

“Once the Fed pivoted, it really put investors into a positive frame of mind,” said Tim Murray, multi-asset strategist at T Rowe Price.

“That was a big deal and it was unexpected.”

The S&P 500 has hovered just short of its January 2022 record in thin post-Christmas trading before dipping 0.3 per cent on Friday’s last trading day.

The index eked out a 0.3 per cent increase over the week, marking its ninth consecutive week of gains in the longest such run since the beginning of 2004.

Meanwhile, the Bloomberg global aggregate index of government and corporate debt is up 6 per cent this year, having been down about 4 per cent in mid-October.

The US 10-year Treasury yield, a benchmark for global financial assets that moves inversely to bond prices, has fallen to 3.87 per cent from more than 5 per cent in October as inflation continues to slide.

US consumer prices rose 3.1 per cent in the year to November, compared with 9.1 per cent in the 12 months to June 2022. Eurozone inflation dropped to 2.4 per cent, the slowest annual pace since July 2021, while United Kingdom inflation has slowed sharply to 3.9 per cent.

Traders are now pricing in six rate cuts by both the Fed and the European Central Bank by the end of 2024, a stark turnaround from the fears of “higher for longer” borrowing costs that triggered a global bond sell-off in the northern autumn.

“Bond market investors have suffered whiplash this year,” said Sonja Laud, chief investment officer at Legal and General Investment Management.

“Any data point can create a lot of volatility.”

Some investors think markets are pricing in too much optimism that inflation will continue to trend lower without the US economy slipping into recession.

“I would anticipate that some of the frothiness around rate cuts will start to fade in the new year,” said Greg Peters, co-chief investment officer at PGIM Fixed Income.

A handful of big technology stocks drove a large part of the gains on Wall Street this year, although the rally has broadened out in recent weeks beyond the so-called Magnificent Seven — Apple, Microsoft, Alphabet, Amazon, Tesla, Meta and Nvidia.

The tech-dominated Nasdaq Composite index is up 43 per cent this year, its best showing in two decades.

By contrast, London’s FTSE 100 has lagged behind US and European markets, rising less than 4 per cent in 2023.

The FTSE’s preponderance of mining groups reliant on the slowing Chinese economy and oil price-exposed energy companies has proved a drag, as has the UK’s relatively stubborn inflation rate, which investors expect to limit how much the Bank of England can lower interest rates next year.

© Financial Times