investment insights
Recessions first, then recovery
Lombard Odier Private Bank
Has the tide turned for the global economy?
The most recent developments show that economic and financial pressures are easing. Inflation is slowing thanks to falling energy prices and recovering supply chains.
And crucially, China has reopened.
As the Chinese authorities support the economy through this volatile process, domestic demand is improving, and better prospects for the property and technology sectors should take growth to 5% this year. Meanwhile, we do not believe that this accelerated reopening will significantly contribute to global inflation thanks to improving supply chains, despite some rebound in commodity demand.
Faster Chinese growth will be good for the rest of the world – and particularly emerging economies – partially offsetting the slowdown in other major economies, where central banks continue to fight inflation.
In the US, the Federal Reserve should take rates to a 5% peak, and then keep them unchanged for most of 2023, while watching the impact on wages.
As tight financial conditions slow demand in the US, we expect a short-lived recessionary episode, driven mostly by low private investment, especially into the housing market. This downturn may take inflation below 3% by year-end.
In Europe, growth will also contract as the European Central Bank takes interest rates into restrictive territory.
While the Fed focusses on labour markets, the ECB’s policy depends on an improving energy outlook, and falling gas prices. A mild winter, high gas inventories and investments in alternatives mean that prices are now back to levels last seen in 2021, before the Ukraine war.
Taking a global view, disinflation and the end of monetary tightening do not mean that central bankers’ jobs are done. Inflation is still high, and we will experience volatile inflation data and some recessionary episodes, before we see recoveries later this year.
In this context, market optimism may be premature. We prefer to take a balanced investment approach.
We have increased our equity allocation to neutral, raising emerging market equities while keeping overweight exposures in Chinese equities and Japanese small and mid capitalisations. In fixed income, we continue to favour quality bonds, namely US sovereign debt and investment grade credit. In currencies, we have raised our exposures to the euro and the Japanese yen, which should appreciate further.
Greater volatility is inevitable, and instability can come from many angles. We therefore favour resilient assets and continue to watch inflation, any obstacles to China’s reopening, growth concerns and fragmented geopolitics.
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It is not intended for distribution, publication, or use in any jurisdiction where such distribution, publication, or use would be unlawful, nor is it aimed at any person or entity to whom it would be unlawful to address such a marketing communication.
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