2023: Light at the end of the tunnel
Very few of us will remember 2022 with much enthusiasm. With inflation already stirring as Covid-related restrictions eased, Russia’s invasion of Ukraine sent energy and food prices through the roof. Central banks were already raising interest rates gradually but, in hindsight, most analysts would now say they were too slow to move decisively to dampen price rises.
Whatever the truth of it, the mix of soaring inflation and rising interest rates put the skids under both stock and bond markets during 2022. Even traditional diversifiers like gold made little difference last year.
So, what can we expect for 2023?
After the “Great Repricing”, the “Great Rebound”?
With interest rates having risen sharply and more hikes on the agenda, recession – two consecutive quarters of economic shrinkage – is looming large, particularly in Europe. Oil prices have risen across the world, but the pain of higher energy costs is most acute in Europe given the continent’s relatively high reliance on Russian gas.
Weaning ourselves – whether as individuals or energy-intensive industrial users – off Russia’s piped gas supplies isn’t coming as easily or as cheaply as we’d have hoped.
Three key themes likely to determine market developments
• A possible central bank pivot
Central banks will want to fight inflation and avoid 70s-style hyperinflation but, after the sharp rises in the latter part of 2022, we expect interest rates to rise more slowly in the early part of this year. We could then see them peak at some point in Q2 as the banks pivot away from trying to overcome inflation to supporting their economies. How high they have to go first will be key in determining the kind of year we have.
• Europe’s energy crisis
High energy costs will continue to drag on European economies. Russian supplies can largely be ruled out, but Europe’s reserves look fairly resilient, barring a harsh winter. The key will be Q4 when those reserves will need replenishing. Gaining energy independence and signing new energy deals will be essential as we compete with other regions for LNG supplies from countries like Qatar and the US.
• China’s growth path
China’s economy has been out of sync with the West, with its central bank cutting interest rates while others have been raising them. We think China’s economy could do better than expected this year, given stringent Covid restrictions have finally been eased and the support those lower rates should offer the housing market. As always with China, the picture isn’t totally clear. Geopolitical risks continue to cloud the outlook and, despite signs of returning normality, the full impact of the wave of infections that rolled in just prior to, and in the immediate aftermath of, the “Zero Covid” exit is yet to be reflected in economic data. Ready yourself for some mixed results in Q1 before the wave recedes.
A game of two halves
After the tumult of the last twelve months, we begin 2023 expecting more of the same – at least for a while. Early on, valuations are likely to continue their decline across asset classes. Inflation will remain high, as will rates. Unlike last year though, we believe these lower valuations, a central bank pivot from raising to cutting rates and improving economic conditions will eventually present opportunities for you to position your portfolios for a potential rebound.
Investment implications under our base scenario
Source: Amundi Institute as of December 2022. IG: investment grade. HY: high yield. EM: emerging markets. HC: hard currency.
We begin the year fairly cautiously, favouring shares in high quality, resilient companies and those paying good dividends. We have a slight preference for US stocks compared to other markets because prospects for consumer spending, economic growth and inflation are more favourable.
Bonds meanwhile are back. That’s because the major central banks (led by the Fed) will, probably at some point in Q2, realise they have done enough. Having peaked, inflation might start a return to target and they will pivot towards easier monetary policy as growth concerns bite.
Bond markets will probably anticipate these moves, as they always do. Valuations should start improving ahead of the actual turn in the interest rate cycle, with the more rate-sensitive assets set to be the first to benefit. Little wonder then that we see some opportunities in government bonds and bonds issued by high quality, financially strong companies. For the time being, we remain more cautious of those issued by more indebted companies, because they are more exposed to the vicissitudes of the economic cycle. Gold could also have a role to play provided the upward pressure on rates fades and the pivot becomes probable.
Overall, we expect things to improve a little in the second half of this year. If rates do indeed peak, we would become more positive on the prospects for global stock markets, including emerging markets, smaller companies and, eventually, more ‘cyclical’ sectors (industries that tend to do relatively well when the economic outlook is improving, such as car makers and luxury goods companies). We might also look to add some risk to our bond portfolios by adding bonds from lower-rated companies.
2023 risks and opportunities
It’s always worthwhile to stay vigilant about potential risks and to consider where investment opportunities might lie – so that they can be identified if and when they present themselves. Here’s what we’ve got our eye on for the year ahead.
Source: Amundi Institute as of December 2022. DM: developed markets. CB: central banks, FX: foreign exchange. USD: US dollar, EUR: euro, TIPS. Treasury inflation-protected securities.
A new year’s revolution
If you haven’t already, it could be worth aligning your portfolio more closely to the ESG transformation, not least because the companies that invested early in the low-carbon transition and the 2015 Paris Agreement are, in our view, likely to be better value creators for you over the long term.
Europe’s search for energy independence could also lead to some interesting investment opportunities in the renewable energy sector.
In summary: Think sequentially
After a tough 2022, we think there could indeed be some light at the end of the tunnel. It’s a year to think sequentially - start defensive and favour high quality assets, but be prepared to take more risk by adding more economically-sensitive assets as the year progresses and the situation improves.
As always, it’s important for you as an investor to keep abreast of economic developments and review your investments regularly to ensure they are keeping you on track to achieve your long-term goals.
Knowing your risk
It is important for potential investors to evaluate the risks described below and in the fund’s Key Information Document (‘KID’) or Key Investor Information Document (“KIID”) for UK investors and prospectus available on our websites www.amundietf.com.
CAPITAL AT RISK - ETFs are tracking instruments. Their risk profile is similar to a direct investment in the underlying index. Investors’ capital is fully at risk and investors may not get back the amount originally invested.
UNDERLYING RISK - The underlying index of an ETF may be complex and volatile. For example, ETFs exposed to Emerging Markets carry a greater risk of potential loss than investment in Developed Markets as they are exposed to a wide range of unpredictable Emerging Market risks.
REPLICATION RISK - The fund’s objectives might not be reached due to unexpected events on the underlying markets which will impact the index calculation and the efficient fund replication.
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CONCENTRATION RISK – Thematic ETFs select stocks or bonds for their portfolio from the original benchmark index. Where selection rules are extensive, it can lead to a more concentrated portfolio where risk is spread over fewer stocks than the original benchmark.
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