Finance chiefs face a dilemma as they look ahead to 2024. Many businesses put expansion and investment plans on ice over the past few years. This caution has reflected persistent fears that the US economy was poised to tip into recession, as the Federal Reserve raised interest rates in its battle to curb inflation. Monetary tightening also took the cost of borrowing to the highest level since the global financial crisis.
Small wonder then that only 8% of US small business owners surveyed in December thought it would be a good time to expand operations in the coming months, according to the US National Federation of Independent Businesses (NFIB). Since the start of 2022, the share of optimists has never climbed above 10%.
Finance executives should start limbering up for expansion in 2024
Broader economic data on business investment also paints a mixed picture. In the third quarter of 2023, the last period for which data is available, fixed investment grew at about half the pace of the economy overall.
But there are several reasons that finance executives should start limbering up for expansion in 2024.
Recession fears receding
First, the spectre of recession looks to be receding, creating a safer environment for companies to invest. Economic uncertainty loomed large in 2023 as a reason to push back investment spending where possible. The predominant fear was that stubbornly high inflation would compel the Federal Reserve to raise rates too aggressively, precipitating a contraction.
Receding inflation in late 2023 has tempered this risk. While the last price data of 2023 was mixed, the annual rate of core inflation – excluding food and energy prices – was the slowest since May 2021. At the same time, the labour market and consumer spending appear to be slowing only gradually.
Profits are expected to rebound this year, providing a more solid foundation for outlays
Therefore, while 2024 looks set to be a year of only mediocre growth, fears of an economic crash landing have ebbed, providing the greater clarity that finance chiefs crave when approving investment plans.
In addition, profits are expected to rebound this year, providing a more solid foundation for outlays. After profit growth of barely 1% in 2023, the consensus forecast is that earnings per share will rise by close to 12% in 2024, according to FactSet. That would be above the 10-year average of 8.4%.
Cost of capital
Secondly, the cost of capital looks set to decline for companies both large and small businesses in 2024. For smaller companies especially, 2023 was a tough year to borrow. The NFIB survey showed that the average rate paid on short maturity loans was 9.8% in December, up from 7.6% at the start of last year. This increase was partly driven by Fed rate rises. But banks also tightened lending standards amid fears that a recession would undermine the ability of businesses to repay loans.
These headwinds look set to ease in 2024. Top Federal Reserve officials have made it clear that, with the threat from inflation passing, rate cuts are on the way. The median expectation of Fed officials at their December meeting was for three 25-basis points cuts in 2024.
The question for finance chiefs at smaller companies will be whether to delay big projects until this process gets underway. They might not have too long to wait. Financial markets appear confident that the Fed will cut even faster and earlier than they are expecting.
Companies that wait too long, in the hope of lower rates, risk missing opportunities
For larger companies, who rely more on the capital markets, expectations of Fed rate cuts have already brought interest rates down. The cost of borrowing for investment grade companies fell from a peak of around 6.7% as recently as October, the highest level since 2009, to 5.4% as of 11 January 2024, based on the Bank of America BBB index. While this is a far cry from the roughly 2.2% companies could lock in at certain points in 2021, the reduction will help more potential investment projects clear their investment hurdle levels.
The challenge then, will be to choose the right time to take the plunge. Companies that wait too long, in the hope of lower rates, risk missing opportunities.
AI investment
So where do the main opportunities for investment look likely to arise? The most obvious is in harnessing artificial intelligence. Goldman Sachs (GS) has estimated that AI could unleash a spending surge by businesses equivalent to the advent of electrification and the personal computer, both of which unleashed investment booms of as much as 2% of GDP.
The transition to the green economy – fuelled in part by the Inflation Reduction Act – is also boosting investment in the production of electric vehicles, batteries, solar panels, wind turbines and heat pumps. Recent estimates suggest this has already led to nearly $100bn in new investment.
Domestic driver
Finally, the strategic rivalry between US and China has also created a drive to ensure domestic production of key technological components at home. The CHIPS and Science Act, which was passed in late 2022, gave the Commerce Department $53bn to invest in the semi-conductor industry. Most recently the administration announced plans to provide $162m in federal grants to Microchip Technology, an Arizona-based semiconductor company that supplies the automotive and defence sectors.
Finance chiefs will face a tough choice on when to step up investment
The bottom line is that finance chiefs will face a tough choice on when to step up investment. If they invest too early, they risk missing out on the chance for cheaper credit. If they wait too long, the risk is that high-growth opportunities will pass them by. Either way, 2024 looks set to be a stronger year for investment than any since the Covid-19 pandemic.
