The S&P/ASX 200 Index (ASX: XJO) is having a solid finish to the year on Friday.
In morning trade, the benchmark index is up 0.65% to 7,064.8 points.
However, this won't be enough to take the index into positive territory for the year. As things stand, the ASX 200 index is poised to end the year with a 5% decline.
While I'm optimistic that 2023 will be a much better year for the stock market, it is worth noting that there are a number of risks that could have a big impact on its performance. Here are five big threats:
Inflation
Recent economic data both at home and abroad appears to indicate that inflation is now under control. However, there's always a chance that inflation could be more stubborn than expected and stick around for longer than forecast. This could weigh on company margins and support higher than expected interest rates.
Interest rates
If interest rates continue to rise and go beyond what the market is expecting, this could put pressure on stock market valuations. After all, if you could receive a 5% guaranteed return from a savings account or term deposit, investors are going to demand a greater risk/reward from the stock market. Unfortunately, this usually means lower earnings multiples, which invariably will mean lower share prices.
Cost of living
For many homeowners, the interest rate increases we have witnessed this year will have been a shock to the system. And with rates likely to continue rising in 2023, their mortgage repayments could put pressure on their budgets and ultimately their spending. Especially given the expectation that energy prices are going to rise strongly and the inflationary impacts on food prices.
Bad debts
If the cost of living crisis gets out of control, then it could lead to a spike in bad debts for lenders such as Commonwealth Bank of Australia (ASX: CBA) and Zip Co Ltd (ASX: ZIP). While the big banks are likely to have sufficient buffers, smaller lenders may not be quite as well-placed to cope. Given how much weighting the banks have on the ASX 200 index, if they underperform next year, they will be a major drag on the performance of the index.
Iron ore price
Another threat to the local stock market next year is the iron ore price. The ASX 200 index has got off lightly this year compared to some stock markets thanks to the performance of mining giants such as BHP Group Ltd (ASX: BHP) and Rio Tinto Ltd (ASX: RIO). For example, the S&P 500 index is down almost 20% this year on Wall Street. However, if demand for the base metal softens and supply increases, the iron ore price could reverse and put downward pressure on the miners and drag on the performance of the ASX 200 index.
