Global Asset Allocation: January Viewpoints

1. Market Perspective

• Volatility likely to remain elevated in the new year as central bank policy expectations diverge amid evidence of slowing growth and moderating inflation. 
• While slowing the pace of tightening, the US Federal Reserve reinforced its commitment to taming inflation, signalling that policy rates may need to stay higher for longer despite the negative impacts on growth and employment. 
• The European Central Bank (ECB) struck a hawkish tone amid its battle against inflation despite acknowledging the likelihood of a near‑term recession. The Bank of Japan (BoJ) made a surprise move towards policy normalisation by adjusting its yield curve controls to provide flexibility for yields to move higher. The Bank of England (BoE) may hike rates less than expected because of a potential UK house price driven recession. 
• Moderating pressures from higher US rates and a strong US dollar could become tailwinds for emerging market economies and a reprieve for their central banks. While uncertainty remains, sentiment towards China could improve following easing of zero-COVID restrictions along with signalling from policymakers that more stimulus measures are on the way. 
• Key risks to global markets include central bank missteps, persistent inflation, potential for a sharper slowdown in global growth, China’s balance between containing the coronavirus and growth and geopolitical tensions. 

2. Portfolio Positioning

As of 31 December 2022

• We remain underweight stocks.  Earnings estimates remain too optimistic, not yet reflecting the potential for weaker demand and higher input prices weighing on profit margins. 
• We remain modestly overweight cash relative to bonds, reducing portfolio duration while earning attractive yields and providing liquidity should market opportunities arise. 
• Within equities, we are nearly balanced between value and growth. The slowing growth backdrop is unfavourable for cyclicals, while higher rates weigh on growth-oriented equities.  
• Within fixed income we are overweight emerging market debt, where valuations offer reasonable compensation for risks. While fundamentals remain generally supportive, we maintain a cautious positioning on investment grade corporate bonds because default rates are expected to rise from historically low levels towards longer-run averages. We also hold a modest overweight to long-term US Treasuries as a risk-off ballast to equities and other risk assets. 

3. Market Themes

Reopen for Business

In early December, Chinese policymakers surprised markets by announcing a pivot away from strict zero-Covid policies. The measures had been effective in containing the coronavirus through targeted lockdowns, testing and quarantines but at high economic and social costs. The reopening announcement partially removed virus testing requirements, restrictions on domestic travel and production stoppages. The news was welcomed by those impacted and championed by the markets as the world has been awaiting China’s reopening to provide a lift to global growth. Unfortunately, the reopening has been met with a wave of infections across the country, resulting in the population being cautious to reengage in outside contact and travel. While China’s reopening should ultimately be a positive for growth in 2023, it is likely to unfold over the balance of the year. As more of the population reengages, it will provide a boost for domestic growth, fuelled by pent-up demand and savings accumulated over the shutdown. Additionally, a re-emergent Chinese economy should be supportive for broader emerging markets and commodities as growth and trade rebound. As investors happily leave 2022 behind, China’s success this year in reopening its economy, stabilising growth and addressing risk in its property sector could be a positive catalyst that helps turn market sentiment around.

No Quick Fix

While there has been a growing number of companies announcing layoffs and hiring freezes over recent months—notably across technology and financial services sectors—the unemployment rate remains anchored near historically low levels with millions of job openings still in the economy. Consumer demand remains strong across services sectors of the economy, including transportation and leisure. However, employers are dealing with a shortage of workers, resulting in the need to offer higher wages to attract and retain talent. On the labour supply front, the pandemic resulted in an increased amount of people exiting the workforce, particularly in sectors that were shut down entirely over the course of the pandemic. Workers have also been more willing to quit jobs in search of higher wages and better benefits, including flexibility to work remotely. The tightness of the labour market and rising wages have the Fed’s attention, and while the decline in goods inflation amid improving supply chains has been a welcomed sign, services inflation is likely to be more of a challenge. Unfortunately for the Fed, there is no quick fix for improving the labour supply chain, leaving them more likely to keep policy tighter for longer until they see a cooling in demand for jobs.

For a region-by-region overview, see the full report (PDF).