Filenews 28 December 2022
After the worst year for global equities in more than a decade, and an unparalleled bond disaster that had never happened before in the 21st century, some investors are not willing to take anything for granted ahead of 2023, Bloomberg notes.
While optimists are betting that central banks will turn to interest rate cuts, that China will make a full comeback from its three-year Covid isolation and that the war conflict in Europe will subside, others are on the lookout for risks that may bring markets back into turmoil.
Here are five scenarios that threaten to bring more trouble to investors next year.
Fortified inflation
"The bond market expects inflation to fully return to normal in 12 months," said Matthew McLennan, co-head of the global value group at First Eagle Investment Management.
However, this may prove to be a big mistake. There is a real risk that rising wages and supply-side pressures, such as increased energy costs, will continue to fuel rising consumer prices, he notes.
This would rule out a shift towards interest rate cuts by the US Federal Reserve and the European Central Bank, which markets see coming in the middle of the year.
The impact? A further fall in stocks and bonds, a strengthening of the dollar and greater pain in emerging markets.
Then there's the issue of higher borrowing costs causing a recession and how that affects investors, according to McLennan.
"The Fed didn't see inflation coming, and in its effort to fight it, it may not see the financial accident coming," he says. "It is very likely that the Fed is underestimating the risk of financial disaster."
China
Chinese stocks have jumped about 35% since their October nadir, based on the prospect of the world's second-largest economy fully opening up from long and draconian lockdowns.
In contrast to this optimism, there is a risk that the country's health system will be overwhelmed, as infections increase and consequently economic activity will collapse. Busy hospitals and queues at funeral homes have raised alarm in recent weeks and are accompanied by a decline in social mobility in major cities.
"China's infection curve will rise and peak only a month or two after Chinese New Year," said Marcella Chow, global market strategist at JPMorgan Chase.
He expects the country to succeed in reopening but still warns of "a risk in terms of how Covid itself evolves".
The recovery in Chinese equities remains fragile and any prospect of a straying of economic activity will reduce demand in commodity markets, particularly for industrial metals and iron ore.
Russia-Ukraine War
"If the war worsens and if NATO becomes more directly involved in hostilities and sanctions increase, it would be quite negative," says John Vail, head of global market strategy at Nikko Asset Management.
Secondary sanctions against Russia's trading partners, particularly India and China, would amplify the impact of the current restrictions at a dangerous time for the global economy, according to Vail.
"That would be a major supply shock for people in terms of food, energy and other kinds like fertilizers, certain metals and chemicals," he says.
An even more worrying scenario would be Russia's use of a tactical nuclear weapon - a threat that seems distant but within reasonable probabilities. Such a move could wipe out Ukraine's agricultural exports in one go.
Declining emerging markets
Many investors see the dollar's strengthening put the brakes on 2023 and energy costs falling – two factors that would relieve pressure on emerging markets.
Any failure to contain inflation would reduce this effect on foreign exchange markets, while the intensification of the war in Ukraine is just one of many risks that could skyrocket energy prices again.
"We may well have another year in which emerging markets will be struggling," says Shane Oliver, chief investment strategist and finance officer at AMP Services. "Another strong or possibly re-strengthened US dollar would work against emerging market countries because many have debt denominated in US dollars."
The pain from this scenario would be particularly acute for emerging market governments that would have to bear an even heavier dollar debt burden.
Return of Covid
A more contagious or deadly strain of Covid-19, or even present variants that will remain longer with us, could begin to block supply chains once again, which would translate into inflation and a slowdown in economic activity.
"We believe the macroeconomic blow to growth will be felt more strongly by larger economies and those that are most dependent on trade," says JPMorgan's Chow.
For now, he is betting that the virus will continue to recede and expects that negativity in the markets will be more focused on investors pricing in a recession in the US and Europe.
Source: Capital.gr
