Charles Schwab's Liz Ann Sonders explains how to invest in the stock market as the economy stumbles through a 'rolling recession' - and shares her favorite book of all time

• In an interview with Insider, Charles Schwab's Liz Ann Sonders explained her economic outlook for 2023.
• The US is already in the midst of a "rolling recession," she said.

Charles Schwab chief investment strategist Liz Ann Sonders doesn't think a US recession is going to hit sometime in 2023.

That's because it's already arrived — but in the form of a "rolling recession."

In fact, the best-case scenario would be a continuation of this rolling recession, she explained, as it would mean there isn't a complete bottoming-out all at once, unlike in 2009 when the economy exhibited much more severe imbalances.

"When you have certain pockets that are weak, you've got offsetting pockets of strength," Sonders said in an interview with Insider.

Housing, several goods-oriented sectors, consumer confidence, CEO confidence, and the inverted yield curve have already entered recession territory this year, she said. But there remain strong points, like household balance sheets and pent-up demand that's keeping the jobs market resilient.

Eventually, the labor market will turn south too, which is how the Fed will rein in inflation, Sonders predicted. But the central bank must avoid loosening monetary policy too soon, and investors shouldn't expect a quick Fed pivot.

"I think the Fed is still having a difficult time getting market participants to understand that once they get to the terminal rate, they're likely to be there for a while," Sonders said, noting that the Fed will have to weigh near-term pain in the labor market versus long-term strength in the economy.

How to invest in stocks in 2023

Sonders said the stock market endured several shifts that are set to continue next year, most notable being that fundamentals have reconnected with prices, and mega-cap tech companies will hold less gravity in indexes.

That being said, investors should be focused on "what's missing," in the macro sense, she said.

"In other words, we're in a declining earnings revisions environment, meaning forward earnings estimates are coming down — a factor of the weakening economy," Sonders explained, adding that investors should look for companies that have positive earnings surprises.

And with fundamentals returning to the fore, that puts greater emphasis on picking individual stocks rather than favoring overall sectors.

"I just think for now we're not in an environment where making a sector call or two is going to be the way to do well," she said. "It's going to be more based on fundamentals, and I think that's actually a positive backdrop, even if we're still in an environment where volatility is likely to persist, and ongoing bouts of weakness, because of what I think is not yet priced into the market is the further deterioration in earnings."

'My absolute favorite book of all time'

Sonders said her "absolute favorite book of all time" is the 1923 novel "Reminiscences of a Stock Operator" by Edwin Lefèvre, a first-person, fictional tale of a character inspired by the real-life day trader Jesse Livermore.

She said she admires how the book illustrates the importance of psychology as a key driver in markets, and how it influences trades more than fundamentals.

"That was the first book given to me when I started in this business in 1986," she said. "It's the one I recommend all the time."