Continuing jobless claims in the US rose for a third consecutive week in the week ending 26 November, climbing by 62,000 to 1.7 million, the highest since early February. On an unadjusted basis, initial claims rose by the most since the start of the year to 286,436 last week.
But we think there's still far too much uncertainty for investors to assume a risk-on position just yet.
FOMC – too early for a signal next week
We are in for a big week, with the Fed set to hold its final policy meeting for the year. Data out of the US has been mixed recently with a two-track economy evident. Falling inflation boosted investor confidence, but labor market and PMI releases still showed tightness and wage inflation pressure. Although we expect the Fed to reduce its rate hike this month to 50 basis points from 75bps at the last four meetings, we think the central bank will not be able to give a clear signal about the end of the hiking cycle just yet.
We even see scope for some disappointment, as Chair Jerome Powell is likely to point out the risks that higher rates will be needed to anchor underlying inflation pressures. We expect the USD to be well-supported after the meeting, particularly given the currency’s rapid decline over the last two months.
War in Ukraine – no end in sight.
Russian President Vladimir Putin warned this week that he expects the war in Ukraine to be a long one. In our base case, we expect the war to continue well into next year without a negotiated settlement. Efforts toward negotiations may intensify at some point in 2023, and we expect trade between Russia and its economic partners to continue.
But risks for the European economy remain skewed to the downside. Europe may still be forced to ration gas supplies if storage falls rapidly or there are further disruptions to supply. A significant military escalation, including a direct confrontation between NATO and Russia, can’t be ruled out either. The Eurozone economy continues to slow, and while recent data suggests it is proving more resilient than feared—helped by fiscal support and a mild winter so far—we still expect the region to experience a short, mild recession.
We prefer investing in energy markets, high-quality fixed income, and safe-haven currencies. These assets should perform well under our base case view and at the same time offer protection against a worsening of the conflict. Read more in our 8 December “Global risk radar” report.
China reopening – cautiously encouraging.
China’s incremental loosening of various COVID-related restrictions has dominated news headlines in recent weeks. On Wednesday, the government eased several measures that marked another significant signal in China’s shift toward a full reopening.
We continue to believe that a full reopening, which we define as a permanent end to snap lockdowns, is most likely by 3Q23, and the latest developments are in line with our view that China is paving the way for this. But we think the market is likely to be volatile amid a bumpy transition period ahead. Investors will weigh several factors, including potential further policy announcements, the effectiveness of policy implementation, and whether there is progress in the elderly vaccination rate and high-frequency mobility data.
So, we think the fundamental challenges of higher rates and slowing growth for the global economy will still be there when we enter 2023, and we do not think the economic conditions for a sustained upturn are yet in place. But given the prospect of periodic rallies, we prefer strategies that add downside protection while retaining upside exposure.
Against this backdrop, we favor defensive sectors and value stocks within equities, income opportunities in higher-quality and investment grade bonds, “safe havens” like the US dollar and Swiss franc, and seeking uncorrelated returns through alternatives. As for China, we see opportunities in sectors that will directly benefit from the shift to an eventual reopening, including pharma and medical equipment, consumer, internet, transportation, capital goods, and materials. Within China credit, we have turned more positive on investment grade property bonds and see value in select high yield issues.
Main contributors - Mark Haefele, Patricia Lui, Vincent Heaney, Jon Gordon
Content is a product of the Chief Investment Office (CIO).
Original report - Taking stock after a volatile start to December, 9 December 2022.
