The following are some thoughts about the market outlook for the first quarter, 2024. I am quietly optimistic that we are looking at the start of a long-term recovery after the challenges of the last few years. At the very least, we have seen off the worst of the high inflationary environment brought about by the confluence of events, such as the logistics bottleneck at the supply side, the concerns about the war in Ukraine and the aftereffects of the pandemic.
J.P. Morgan’s Global Investment Strategy Group (GIS) believes the US economy could see a growth slowdown in the first half of 2024. However, it will likely avoid a recession this year. As it is, the expected recession of 2023 never materialised. The higher bond yields and the reasonable stock valuations mean that forward-looking returns look more promising than they have been in more than a decade. The lower likelihood of an economic downturn bodes well for your investment portfolio going into the new year. As the market consolidates, we are going to see market growth in the 2nd half of the year. I think it unlikely, because of the presidential cycle. Politics is still the major driver of economic uncertainty in 2024. This includes the US presidential election which could have unpredictable consequences for geopolitics, trade, and the wars in Ukraine and the Mideast.
The reduced risk of a recession is just one element in a shifting financial landscape. Emerging from the pandemic over the past few years, the markets experienced a historic increase in bond yields. It is critical to recognise of the impact of higher interest rates. There is a shrinking gap between job openings and unemployed workers in the US. The cooldown in US wage growth to less than 5% from a peak over 7% suggest that the Federal Reserve is making progress in its fight to reduce inflation.
It is estimated that the Federal Reserve could start cutting interest rates sometime in the second half of 2024. If the rate cuts come in response to normalised inflation rather than a recession, the cutting cycle will likely be slower than during the early 2000s, Great Financial Crisis (GFC) and pandemic. US inflation has fallen to between 3.5% and 4% on an annual basis, down from its highs of over 8% in the summer of 2022. Inflation is expected to continue declining towards the Federal Reserves’ target, likely settling between 2% and 2.5%. The normalised labour market, and lower impact of energy price swings on the overall price basket should help keep inflation in check.
In March, the FDIC took over Silicon Valley Bank after it experienced a classic bank run. Higher interest rates made its bond portfolio less valuable, threatening its balance sheet and spooking its customers. Signature Bank and First Republic failed shortly thereafter. Higher interest rates have been working their way through the economy, denting the balance sheets of bondholders, and raising the cost of borrowing. This is also an indictment of the poor US regulatory framework, allowing banks to put so much of their reserves in long-term bonds, and not diversify. This lack of liquidity caused the collapse more than the market conditions. Corporate bankruptcies rose sharply in the US, in 2023, but are still well below the highs of the GFC. Again, it was a liquidity issue.
However, there are still several inflationary pressure points to consider. Industrial policy and the transition to clean energy could support higher commodity prices. We need to consider the impact of the carbon tax, which will drive prices of some sectors up. GIS also predicts a challenging macro backdrop for equity markets in 2024, due to sluggish growth and stubborn inflation. They estimate S&P 500 earnings growth of 2% to3%, and a price target of 4,200, with a downside bias. GIS expects U. and global growth to slow by the end of 2024, since geopolitical risks remain high, and equity volatility is expected to generally trade higher in 2024 than in 2023. Meanwhile, the US continues to command a quality premium over other markets, given its sector composition and cash-rich mega-capitalisation stocks.
GIS foresees a bumpy start to the year is expected for Emerging Markets given high rates, geopolitical developments, and lasting US dollar strength considering the aforementioned geopolitical tensions. However, Emerging Markets should become more attractive through 2024 on Emerging Markets -Developed Market growth divergence, demand for diversification away from the US, and low investor positioning.
BlackRock sees quality stocks in a strong relative position as the rate hikes end. The greater market breadth is creating stock-picking opportunities. BlackRock’s overall strategy is to retains focus on quality and lower-beta equities, because they sees attractive stock selection opportunities in 2024 amid a Federal Reserve pause and outlook for broadening market breadth.
Goldman Sachs Research’s baseline assumption is that the US economy continues to expand at a modest pace and avoid a recession. They project an earnings rise by 5%, and the valuation of the equity market equals 18x, close to the current P/E level. They expect the Federal Reserve has finished its hiking cycle and Treasury yields have peaked. They forecast most of these ownership categories will be net sellers of stocks in 2024. They expect positive returns to equities, but a 5% return risk-free in cash remains a competitive alternative.
GIS believes the Federal Reserve’s dovish pivot has tipped the odds away from recession and toward a soft landing. The sub trend growth is now the base case probability at 60%, and they have dropped the likelihood of Recession to 25%. They favour the higher yielding credit sectors of the bond market: corporate bonds and securitised bonds, including agency pass-throughs, non-agency commercial mortgage-backed securities and short-duration securitised credit.
Morgan Stanley contends investors need to pay close attention to monetary policy if they want to avoid a variety of potential pitfalls and find opportunities in a cooling but still-too-high inflation and slowing global growth. 2024 should be a good year for income investing, with Morgan Stanley Research strategists calling bright spots in high-quality fixed income and government bonds in developed markets, among other areas.
Following interest rate hikes by central banks, global inflation has moderated from a peak of close to 10% in mid-2022 to a current pace of less than 5%. While geopolitics and energy prices pose a risk, we see more gravity weighing down inflation than buoyancy pushing it up. Higher yields have also been a headwind to the broad global economy. As such, global multi-asset portfolios have not gained much ground since November 2020, and investment-grade debt has posted negative total returns for three years in a row. High rates may be beneficial in some ways, but there has been relatively underwhelming returns in global portfolios as a result.
Other themes for 2024 include a potential boost in productivity from artificial intelligence (AI) and governments incentivising politically important industries. The US is amidst a presidential primary. It is in the interest of the incumbent administration of President Joseph Robinette Biden Jr., to roll out initiatives to grow the economy. The Bipartisan Infrastructure Bill, CHIPS Act and Inflation Reduction Act have contributed to an unprecedented surge in manufacturing construction over the past two years. We will be better placed to assess how successful they have been this year. Artificial intelligence (AI) may see a potential boost in productivity, with governments incentivising certain industries like financials, airlines and healthcare. Governments around the globe are also incentivising investments in important areas like national security, the energy transition, semiconductors, infrastructure, supply chains, and anything exposed to climate change.
The higher interest rates mean bonds are now as competitive with stocks as they have been since before the GFC. US aggregate bonds should deliver 5%-plus returns over the next 10-15 years with just a quarter of the volatility of large-capitalisation stocks. Because of the added volatility, US large-capitalisation stocks should reward investors with returns of 7% over the same time frame. For conservative investors, in order to lower downside risk, and limit the range of potential outcomes, I suggest a shift towards more bond exposure. However, for those aiming to maximise upside potential, they should keep their portfolio tilted toward equity.
In a higher-yield environment, some of you might be considering cash and money market, while waiting for better opportunities later. However, cash is expected to underperform most asset classes in 2024. We must consider currency and interest rate exposure for global portfolios.
Looking at China, while many expected a surge in consumer spending and a big spike in oil prices, once China eased travel restrictions, this did not happen. For one, there is the trade conflict with the US. The Chinese government is also adjusting the economy by balancing GDP away from the real estate sector, which once stood at almost 30% of GDP, and by curbing other industries such as tuition. These are wise measures for long-term growth, but the result is short-term pain. Otherwise, Chinese growth would not be sustainable.
China is pivoting to investing in levels of manufacturing capacity to seize a long-term strategic advantage. This includes electric cars, batteries, solar panels, renewable energy developments, high-end manufacturing, precision engineering, and metallurgy. China is no longer the factory of the world for mass-produced goods only. We should expect disruption in the short-term, but substantial long-term growth.
Asia is expected to account for 60% of global GDP growth in 2024. Despite the higher risk attached to geopolitics and China’s economy, it remains the main region for growth opportunities. Bangladesh, and ASEAN are likely to see accelerated growth in the medium term. The anticipated robust growth and a relatively promising outlook in Asia could present attractive potential for discerning investors in 2024. A significant theme is the potential for disruptive technological innovation, providing investors with rewarding and untapped opportunities in companies well positioned to benefit from ongoing transformations. Asia’s continued strong growth momentum and relatively promising outlook should provide attractive potential for selective equity investors in 2024.
Goldman Sachs Research predicts a resurgence in the Japanese equity market in 2024, driven by robust global economic growth and reforms in the stock market. The TOPIX, a gauge of Japanese stocks, is expected to climb by about 13%, reaching 2650 by the conclusion of 2024.
In summary, after considering the various factors, and
reading the extent economic reports, I personally recommend a slight overweigh
on US equity and bond in the near-term, before reviewing at the start of the 3rd
Quarter. Areas of growth include
healthcare, and technology. East Asia
and Southeast Asia remain important growth regions, and still look good for
long-term investment.
