Inflation will remain a top concern for consumers, business owners and investors through 2022, and will remain central to the market and economic outlook for the year ahead. vortex of inflation, the title of the 2023 capital market forecast points to the rise of some forces. But keep in mind. Inflation will not last at this level. In fact, there are compelling signs of disinflation in the pipeline, with the main consumer price index (CPI) expected to slow to 3% by mid-2023. This forecast explores three key trends and their implications for global inflation: tighter US labor markets, Chinese policies and population concerns, and costs of transitioning to green energy. For more information, read the full report here. These trends demonstrate the positioning of our client portfolio.
Before we delve into the investment opportunities ahead, let’s first look at the inflation forecast. Short and medium term risks are important for identifying these opportunities. Inflation, he expects, will slow from about 7% at the end of 2022 to about 3% by mid-2023. While this decline is important in the short term, what is important to the asset class’s medium-term returns is where inflation tapers off. How will inflation and other factors affect whether we enter recession territory in 2023? There are three possible scenarios:
- slow recession, Despite the expected sharp drop in inflation, our expectations seem unavoidable. Moderate inflation moves, coupled with the Federal Reserve’s (Fed’s) desire to keep rates rising until inflation subsides, could push the Fed Funds rate to 5.0% or slightly higher. This will dampen consumer and business spending, with an annualized contraction of 1.0% to 1.5% over two quarters, with S&P 500 earnings expected to decline by at least 5% to 10%.
- soft landing, A scenario in which economic growth slows but does not contract is the second most likely scenario. The Fed may limit rate hikes to a peak below his 5.0% before pausing to assess the impact on the economy, with a rate cut likely in the second half of 2023.
- deep recession assumes that wages, housing and the broader services sector continue to exert upward pressure on CPI. The Fed will raise its policy rate above his 6.0%, the unemployment rate will exceed his 5.5%, and the economy will contract at a rate of 2.5% to 3.0% over his two quarters.
What does this mean for your portfolio?
The stock market’s reaction to a gradual or soft-landing recession scenario is unclear, but the extent of Fed communication through 2022, the length of the potential recession, and the likelihood of further rate cuts in 2023 are likely. We anticipate that this could mean a limited decline in stock prices. The next bull market will start in his 2023 (if it hasn’t started yet). We are ready to cash in when the opportunity arises and we expect affordable growth stocks to outperform. Still, a tight labor market means labor costs are weighing more heavily on the industrial, technology, telecom services and financial sectors. According to Macrobond, energy remains an attractive sector even though he outperforms the S&P 500 by 91% in 2022.
One of the positives of higher interest rates is that it returns profits to a more diversified investor base. After years of low interest rates plaguing savers and bond investors, we believe the pain for bond investors is largely in the rearview mirror. Current yields ultimately provide bond investors with adequate interest payments, justifying a full allocation to bonds in their portfolios.
As for developing countries, or emerging markets (EMs), investors should be hesitant to exit this space and call for a nuanced approach to investing in Chinese equities, which account for about one-third of EM equities. I think it is necessary. Higher policy risk demands greater selectivity, with potential rewards from active managers with knowledge and presence of the country. Look broader at emerging markets and look for emerging strategies with the flexibility to increase or decrease exposure to China. Our outlook for the world’s advanced economies is grim, with Germany likely to lead the broader European Union into recession that could last until much of 2023. High inflation, Ukraine war, currency depreciation, and other risks weigh heavily on this asset class.
Economic anomalies can be difficult, but our experience shows that as “normal” evolves, it will eventually normalize. Diversification is a cornerstone of our investment philosophy and we move forward with the confidence that returns across our portfolio will soon be positive again. Again, if you’ve read the full 2023 forecast and are concerned about how these effects will affect your portfolio, Kurt, president of his office in Naples, Fla. We encourage you to contact us.
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Forecasts presented herein are Wilmington Trust’s informed judgments and opinions regarding expected future capital market performance and are subject to change without notice. Projections are subject to a number of assumptions about future returns, volatility and asset class interrelationships (correlations). Assumptions may vary by asset class. Actual events and results may differ from the underlying estimates and assumptions, which are subject to various risks and uncertainties. No guarantee can be made as to actual future market results or the results of Wilmington Trust’s investment products and strategies.
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