China recovery and policy easing could make 2023 a year to remember for investors
- With so much bad news already factored in during 2022, there is the chance markets could be surprised on the upside by unexpectedly better news in 2023
- The stock market’s reputation as the top predictor of the economic cycle means investors should anticipate better news rather than looking over their shoulders
On the positive side, there is still plenty of liquidity to nurture global economic confidence and boost financial markets. With a bit of luck, 2023 should be the year of cautious recovery.
The problem is that there is so much uncertainty. When the chips are down, investors naturally prefer to duck for cover into safe haven bolt-holes like cash, ultra-safe government debt such as German bunds and the US dollar.
With the war in Ukraine, the global inflation spike, higher interest rates and the threat of recession, it is no surprise world equity markets are feeling the strain. The US S&P 500 share index is down about 20 per cent in 2022 and risk aversion is on the rise again.
Even government debt markets have turned the tide on the recent bear market for fixed income. US Treasury yields have fallen in the last two months on safe haven fears as investors have begun to fret about the risk of impending recession.
From a macroeconomic perspective, it’s hard to see where the good news is going to come from. There is always a risk the world descends into recession in 2023 on a perfect storm of adverse events – the Ukraine war intensifies, the inflation crisis worsens, central banks get tougher and global economic confidence subsequently implodes.
Even so, the Organisation for Economic Cooperation and Development (OECD) remains relatively upbeat and is still forecasting 2.2 per cent global growth for 2023 and 2.7 per cent for 2024. This is down from 3.1 per cent this year and below recent trend growth of about 3.4 per cent. It might look lacklustre, but it is far from a disaster.
With so much bad news already factored in during 2022, there is the chance that markets could be surprised on the upside by a confluence of unexpectedly better news in 2023. The possibility of détente emerging between Russia and Ukraine next year, an easing in global energy prices and a softer tone from the central banks might just provide the much-needed lift for economic confidence and world financial markets.
There is a chance the Fed has already reached optimal interest rates with the Fed funds rate at 4.25 to 4.5 per cent. The greater part of its tightening could be over. By the end of 2023, with 2022’s inflation scare receding, the Fed could be coaxing interest rates down again. It’s the main reason the US dollar is under pressure and other, higher-risk currencies look like a better bet right now.
There might be plenty of challenges ahead, but the investment climate should eventually tilt back towards equities and risk assets on a longer-term view. There is more than enough global liquidity left over from the accumulation of central bank monetary reflation since the 2008 financial crash and during the Covid-19 pandemic to keep world financial markets amply funded during the next few years.
How important is consumption to China’s economy?
The stock market’s reputation as the best forward predictor of the economic cycle means investors should be anticipating better news ahead rather than looking back over their shoulders at the shock of 2022’s events. Consensus surveys seem to suggest the S&P 500 should be able to make a modest 10 per cent gain in 2023, but the odds tend to favour something better as the fog clears on recovery next year.
As the appetite for risk builds momentum in 2023, stocks should gain the upper hand over bonds. If we are lucky, 2023 should be year to remember for good reasons rather than bad ones.
David Brown is the chief executive of New View Economics