Q3 2023 Quarterly Update

It’s hard to believe we’re in the final quarter of the year! As we approach the new year, we hope you find our current executive review of interest. We have summarized our observations and offer you our thoughts on Q3’s market activity and summary with parting thoughts on some of what we are paying attention to as 2023 draws to a close.

Summary

  • Most stock market indices, U.S. and non-U.S., ended the quarter negative but generally maintained overall positive performance for the year
  • International exposure, despite broadly continued underperformance, presents opportunity for risk management and future performance upside
  • RMD season has arrived, and we encourage clients to review their 2023 tax situation prior to the of the year
  • Inflation, Federal Reserve policy, global events, and economic strength could contribute to increased volatility through the end of 2023 and into 2024
  • Alpha Principle’s fixed income approach has shown relative strength and may become more diversified over the next 3 to 6 months

Prior Quarter Market Commentary

If the last several months have felt a little bit like rollercoaster, you’re right. There has been a convoluted mix of good news, bad news, and confusing news. Stocks (well, some of them) initially continued their upward swing, but became rockier starting in August with several attempted rebounds failing to gain enough traction to prevent a negative quarter.

Q3 market activity

U.S. markets continued their outperformance over aggregate international markets. This sentence has become almost a mantra over much of the past decade. U.S. or foreign dominance tends to span many years at a time before flipping, often unexpectedly and suddenly, the other direction. Even in periods of broad U.S. outperformance, many other individual countries may be outperforming. As of September 30th, 2023, the U.S. had been outperformed year-to-date by Mexico, Spain, and Italy—just to name a few.

Diversification outside of the top 10 largest U.S. companies has been a headwind throughout 2023. Value companies’ recent outperformance did much to close this gap and again illustrated its potential for reducing market downside. Still, the market returns remain unbalanced, with the equal sector weighted S&P 500 index (ticker RSP) down almost 2% more than the broad U.S. stock market.

U.S. fixed income has once again underperformed in 2023. While broad U.S. bond markets were roughly flat (by price) after the first half of the year, prices dropped by 4% (ticker AGG) across Q3. Alpha Principle’s current approach to fixed income was another strong tailwind for Alpha portfolios, with short-term investments substantially outperforming their intermediate- and long-term counterparts.

Financial Planning Applications

While 2022 was a particularly strong year for tax loss harvesting opportunities, we have prioritized portfolio health over tax loss harvesting through rebalancing in 2023. We will continue to look for tax loss harvesting opportunities through the end of the year and expect most portfolios to be neutral, have slight realized losses, or slight realized gains. Any portfolios with substantial withdrawals will likely see greater gains, but we strive to be as tax efficient as possible while prioritizing portfolio composition.

We will also soon begin reaching out to clients with Required Minimum Distributions (RMDs), which will impact 2023 tax burdens as well. These RMDs should generally be lower than 2022.

Please reach out if you would like to review your 2023 tax situation, and it can often be helpful to schedule a brief, end of year discussion with your tax advisor/CPA as well (situation dependent).

Looking Forward

All eyes remain locked on the Federal Reserve and their interpretation of economic data. The Fed opted to maintain rates at the last meeting but left the open for at least one more rate increase (we anticipate .25%). Inflation, though under 4% year-over-year, increased on a month-to-month basis for two consecutive months. The continued uncertainty surrounding inflation and short-term interest rates has led Alpha Principle to maintain its ultra short to short duration exposure within its fixed income and cash management portfolios. With yields rising from close to 0% in 2022 up to roughly 5.5% for ultra-short-term Treasuries, we have been content and enjoyed success with this strategy, but we will be evaluating diversification across the yield curve in the coming months.

The S&P 500’s largest 10 companies make up over 30% of the index, and large U.S. growth indexes are up to 50% concentrated in the largest 10 companies. These largest 10 companies (familiar names such as Apple, Microsoft, Nvidia, Amazon, etc.) have enjoyed, despite a lackluster Q3, tremendous success in 2023, leaving most of the broad market behind. Large concentrations make Alpha Principle nervous, which reinforces our commitment to reducing those concentrations through scientifically derived factors within our portfolios. Stock markets could remain bumpy through the end of the year into next as investors digest inflation data, Federal Reserve actions, company earnings, broad economic data, and global events. Discipline, patience, and a sound financial plan remain the cornerstones for maximizing good outcomes.

Please do not hesitate to reach out to us with any questions or schedule time on my calendar, and we hope you have a wonderful weekend.

Best regards,
The Alpha Principle Investment Committee

1A portfolio’s blended benchmark is a mix of generic, market cap weighted funds (without our value, small, and profitability tilts) that mimic the portfolio at a high level.
2Any specific portfolio may have different performance variations based on customizations, tax considerations, or timing. Please contact us if you have any questions.

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