However, we continue to think that equity markets are pricing in more good news than bad, and that macro uncertainty on the horizon means the recent rally looks vulnerable.
A resolution to the US’s debt ceiling remains elusive. President Joe Biden and House Speaker Kevin McCarthy are set to resume debt-limit talks on Monday following limited progress over the weekend. Treasury Secretary Janet Yellen said earlier Sunday that the chances the US can pay all its bills by mid-June are “quite low.” While a last-minute deal remains our expectation, the current large gap between the demands from both sides mean that investors should brace for more volatility in markets in the lead-up to an eventual compromise.
The Fed’s next rate decision is data-dependent. Several Fed officials last week dialed up hawkish rhetoric, with Dallas Fed President Lorie Logan suggesting the central bank is not there yet in terms of pausing rate hikes. St Louis Fed President James Bullard also said the situation “may warrant taking out some insurance by raising rates somewhat more to make sure that we really do get inflation under control.” Fed Chair Jerome Powell on Friday appeared to be more neutral, saying it remains unclear if rates will need to rise further, reiterating that decisions will be made “meeting by meeting.” Our base case is for a pause in the June FOMC meeting, but the prospect of a hike is more than a tail risk.
The health of some regional US banks remains a concern, and tighter credit conditions could put further strain on US economy. The latest data showed that loans from the Fed’s Bank Term Funding Program (BTFP) rose to USD 87bn, marking a new high for participation since its launch in March. While we believe the US regional banking sector in aggregate has adequate capital and liquidity, this may suggest lingering stress in the banking system. Tighter credit conditions, as shown by the Senior Loan Officer Opinion Survey, at a time when US economic growth is slowing, could continue to put corporate profits under pressure. Speaking late last week, Powell said that headwinds for some banks were “contributing to tighter credit conditions and are likely to weigh on economic growth, hiring and inflation.”
Against this uncertain backdrop, we recommend investors focus on finding ways to help make their portfolios more resilient. We prefer bonds to equities in our global strategy, and believe that higher-quality segments of fixed income offer both attractive absolute yields and a hedge against growth and financial stability risks. Within equities, we recommend utilizing high-dividend and quality stocks to add income. We also see gold as an effective portfolio diversifier and hedge, and forecast the yellow metal to reach USD 2,250/oz by June 2024.
Main contributors - Mark Haefele, Daisy Tseng, Jason Draho, Christopher Swann, Jon Gordon
Content is a product of the Chief Investment Office (CIO).
Original report - Equity headwinds remain amid market uncertainty, 22 May 2023.