Market Insights - January 16, 2023

In Europe, both manufacturing output and retail sales beat expectations in November, up 1% and 0.8% respectively. This is another sign that the region’s economy is holding up well. The worst-case scenario seems to have been avoided, which explains why European stock markets have been strongly outperforming since September. 

The Q4 earnings season is under way in the US. Full-year 2023 earnings forecasts are likely to be revised down, as companies remain cautious about the business environment this year. It will be interesting to see to what extent analysts and the markets have already factored in this caution.

After a difficult year in 2022, digital assets have picked up in early 2023, with bitcoin gaining more than 20%. This asset class has been lifted by strong bearish sentiment among investors and a renewed appetite for risk across all markets.

The storm clouds are clearing

There’s likely to be a pause in the current series of interest rate hikes soon. We expect the US Federal Reserve (Fed) – and possibly the Swiss National Bank – to announce just that in the coming months, and other central banks, like the European Central Bank, should follow suit, probably in the second half of the year. Disinflation is now widespread in the US, and it looks like inflation has peaked in Europe too. So 2023 looks set to be a year of transition: economic growth in some regions could stall or even contract slightly, but we might also see the start of a new economic cycle.

The outlook is therefore much brighter than it was a few months ago, and a soft landing for the global economy seems more likely. There are two main reasons for this: first, energy prices are falling – particularly gas prices, which have plunged in Europe – and this has eased inflationary pressures and brought some relief for households and companies; and second, China has dropped its zero-COVID policy and reopened its economy, which should boost output in the world’s second largest economy.

This should revive investors’ confidence in the financial markets, although there is still a great deal of uncertainty, and volatility is riding high. Most asset classes are attractively valued at present. Bonds yields are the highest they’ve been for some time. We think equities are broadly undervalued and very likely to rebound after a tough year in 2022. We therefore recommend increasing exposure to European and Asian stocks in portfolios. It’s a good time to buy European bonds and lengthen duration in order to take advantage of the coming decline in interest rates.

For Swiss investors, we think the time is right to move back into real estate funds after a tough couple of months for this asset class. However, we are reducing our allocation to alternative funds, which outperformed significantly last year. Lastly, the US dollar could be weakened by the Fed’s moves, particularly against the euro.

Out of the tunnel

China ­– the first country to be hit by the COVID-19 pandemic and the last to come out of it – has at last decided to try and live with the virus, easing restrictions after almost three years of lockdowns.

The government’s zero-COVID strategy, which has impacted the lives of more than a billion citizens, has also weighed on consumer spending and seriously hampered China’s economic growth. The country’s chaotic management of the pandemic caused Asia’s stock market index to drop by around 20% in 2022, the fourth largest decline in its 35-year history.

After several false starts, it was hard to predict exactly when the zero-COVID strategy would be brought to an end. There were initial signs of easing when Beijing reduced its reserve requirement back in December 2021. But it wasn’t until the Communist Party Congress and the market capitulation in October 2022 that we saw a clear intention on the part of Beijing to reopen the country’s economy.

With economic activity stalling again after a surge in COVID cases in December, we expect a second V-shaped recovery in 2023. Chinese consumers haven’t received the same highly generous stimulus as US consumers, but the long lockdowns have forced them to build up their savings, so there
should be more pent-up demand.

China has come out of the tunnel earlier than expected: the markets had been anticipating an easing of restrictions in late spring 2023 and have welcomed the changes over the last two months. That said, the index began underperforming in early 2021 and the recent rally has only brought it back to its mid-2022 level so far.

Nevertheless, the region’s stock markets are expected to continue on their upward trajectory in 2023, now that travel restrictions have been lifted and Beijing has loosened up on its crackdown of the tech and property sectors.