Inflation, rate hikes and war in Ukraine are weighing on equities markets and raising the risk of recession, but there’s still room for global stocks to perform well this year, according to a couple of reports from investment managers.
Russia’s invasion of Ukraine has “significantly altered” the trajectories of financial markets and global economic growth, according to RBC Global Asset Management’s spring 2022 outlook report.
“Although we continue to think that the most likely outcome is for the global economy to continue expanding, we now expect slower growth and higher inflation, and we presume that the odds of recession have increased,” the report said.
RBC’s base-case scenario is for the global economy to expand as inflation peaks by the end of the year. The firm forecast 3.6% global growth this year, down from 6.2% in 2021, but noted that the conflict and the effect of sanctions create considerable uncertainty. As a result, the firm put the risk of U.S. recession this year at somewhere between 25% and 50%.
The correction earlier this year in major U.S. equities markets created room for stronger returns, even with the war creating uncertainty, the report said. “[G]iven that measures of investor sentiment are extremely pessimistic and valuations have come down, any indication that the outlook is improving could result in a significant positive swing in investors’ attitude toward stocks.”
That happened last week as markets rallied following the Federal Reserve’s rate hike announcement, confounding some market analysts.
A report from Richardson Wealth noted the apparent incongruity between the ongoing tragedy in Ukraine, the Fed sounding hawkish as it launched its tightening cycle, elevated inflation prints — and stock markets rising.
“When bad news fails to move markets lower, the path of least resistance is likely up,” the report said.
Federal Reserve Chair Jerome Powell said last week that the U.S. central bank planned six hikes this year and four next year. In a speech on Monday, Powell said the Fed would be open to raising rates by a half-point at multiple meetings.
Bond yields have been rising this week, which may be leading investors to equities for lack of choice. RBC noted bond yields are “unsustainably low” and set to rise, even if the war in Ukraine temporarily limits that increase. Higher yields over the longer term “sets up a scenario where sovereign-bond returns are low or even slightly negative for many years,” it said.
RBC forecast four 25-basis-point hikes from the Federal Reserve, the Bank of Canada and the Bank of England this year, but none from the European Central Bank. Four rate increases theoretically reduce a country’s economic growth by 0.5% over the following 18 months, the report said — “far from a recessionary impact,” though the speed of the switch to tightening presents some risk.
Richardson Wealth noted this hiking cycle is unusual in that rate increases typically occur as economic growth accelerates.
“The good news is the economy is decelerating from a high level, which means a few rate hikes are likely not going to move the needle very much,” the report said. “Still the pace of decelerating growth is key, and we are already starting to hear some banter about the ‘R’ word” — recession. The authors called the banter “premature.”
Richardson still favours growth over value in equities and shorter duration bonds, though it noted the drawdowns in growth stocks may have moved some names into the value camp.
RBC said the re-pricing provides an opportunity to invest cash put aside last year as markets became expensive. It recommends an asset mix of 64% equities, 34% fixed income and 2% cash for further opportunities.