Investment Update — January 2023
Hopes for a Santa rally quickly fizzled out as the European Central Bank indicated further rate hikes, and comments from the Federal Reserve suggested a pivot isn’t coming anytime soon. The Bank of Japan also got in on the act, surprising markets with a tweak to monetary policy that allowed 10-year bond yields to rise to 0.50%, with the yen enjoying a strong rally in response.
Although the USA CPI decreased, services inflation remains sticky, reflecting strong wage growth. Evidence also emerged that inflation has peaked in Europe, and that unseasonably warm weather is dragging natural gas prices lower.
Global equities declined 4% over the month, with value stocks outperforming growth, and defensives stocks outperforming cyclical stocks. The S&P 500 fell over 5%, whereas UK and European equities ended the month more or less flat. China’s relaxation of its Covid rules saw the Hang Seng rally by nearly 7%. Gold was the best performing asset class, returning 4%.
It is expected that the global economy will enter a recession during 2023, as the lagged impact of tighter monetary policy begins to feed into the real economy. The resulting slowdown in economic activity should lead to a rise in unemployment and a contraction in corporate earnings.
The good news is that most forecasters, central banks included, expect a mild recession.
This ‘soft landing’ scenario appears to be priced in by bonds and equities alike, with US equities trading around the average of historical valuations, which reflects that earnings expectations remain resilient. However, we need to remember two important facts; Firstly, the consensus is often wrong; Secondly, it is difficult to predict recessions.
The global economy is dealing with massive distortions, both from the pandemic and the conflict in Ukraine. As these distortions unwind it is entirely reasonable to expect inflation to reverse rapidly, which would boost real incomes, economic activity and provide a welcome respite for risk assets.
Head of Investment, Skerritts
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