Waiting to turn the page

The continuing resilience of the US economy convinced us that the outlook for equity markets was improving. We therefore moved the allocation to stocks from underweight to neutral last month, with a preference for US (overweight) markets over European (underweight) and emerging markets (neutral). The latest signs from the US and China continue to encourage this view.

Even though US inflation was recently a little higher than expected due to rising energy prices; wage growth declined and the labour market has softened. It is these three factors (inflation, wage growth and the labour market) that the US Federal Reserve uses to gauge the success of its battle against inflation. 

The latest data point to the central bank possibly pulling off the rare phenomenon of a “soft landing” of the economy – where inflation is brought under control without instigating a recession. Slowing growth, however, remains part of this scenario. We expect US growth to slow in the fourth quarter and into 2024, before a rebound occurs in the second half of next year. 

In the eurozone, the economy is still being hit by the effects of the European Central Bank’s sharp interest rate hikes that have been underway since the middle of 2022 and the cooling of the global economy – especially China. We expect the weakness in the eurozone to continue for a while, with growth probably contracting moderately or remaining close to stagnant during the second half of 2023 and the first half of 2024.  

So far, the piecemeal nature of fiscal stimulus in China is aiding some sectors there, such as manufacturing, but the effects of the country’s stringent zero-Covid policies and regulatory crackdowns linger. There are signs of improvement, however. Most recently, lending and foreign trade data were all stronger than expected; retail sales and industrial production showed a turnaround as well. In short, Chinese economic momentum appears to be stabilising. We forecast 5.2% economic growth for China in 2023 and 4.8% in 2024.

Against this backdrop, the ABN AMRO Investment Committee made no changes to the asset allocation at its latest meeting. A neutral stance continues to be taken toward both equities and fixed income markets. 

Since early March, European and emerging markets have been moving sideways, while US markets have moved higher, based on outperformance largely from a handful of information technology (IT) stocks. We believe that equity markets are now beginning to stabilise. What comes next will be determined by the macroeconomic outlook and third-quarter earnings results. For now, conflicting signals are buffeting markets. 

In general, the services sector is doing well, while manufacturing is contracting. US markets remain resilient, but China’s weakness has hurt the outlook for both emerging markets and Europe.  

In this environment, we believe that a neutral stance toward equity markets is warranted. Our regional and sector allocations point to where we see value. This translates into favouring US stocks and the information technology and health care sectors. 

With the Fed and the ECB nearing the end of their hiking cycles, bond markets are volatile. We believe that the ECB, after its 25-basis-point hike of its deposit rate to 4% in September, has reached its peak level, with the Fed achieving its peak earlier this summer. Of course, a peak in rates is only seen in hindsight and is only certain after central banks begin to cut rates. 

As the bond market nervously waits for the first signs of a central bank turnaround, which we do not expect to occur in the US or Europe until 2024, we favour remaining invested in safe government bonds and investment-grade corporates, while avoiding more risky bond segments, such as high yield. 

Current market conditions are such that if you are looking for it, you can find it. Optimists can take heart from the strength seen in the US, a thriving services sector, an expected end to rate-hiking cycles in the US and Europe and the better-than expected returns from both stocks and high-quality bonds so far this year. 

But pessimists, looking at the same picture, can point to monetary policies that are expected to remain restrictive in 2024, unresolved inflation concerns & potential recession, rising energy prices, a lagging global manufacturing sector, the war in Ukraine and wary consumers, who have spent down their savings.

In this environment, we became less bearish over the summer and put cash to work to increase our equity exposure. For now, we believe a neutral equity position is the best option for investors, as we wait for signs of what’s ahead and what to expect in 2024. Central bank communications and corporate expectations will be key. 

 Richard de Groot, Chair, ABN AMRO Investment Committee