December 2023 MPS Market Review

• The dazzling performance from both global stocks and bonds continued in December, rounding out an impressive final quarter for capital markets.
• After a very difficult 2022, global equities enjoyed a smart recovery in 2023 as US markets, once again, lead the way.
• Less encouraging, but still positive returns were posted by UK stocks, as lacklustre performance from the dominant oil majors weighed on the overall index.
• Chinese markets delivered the biggest disappointments, however, as the post-covid reopening soon fizzled, and the absence of meaningful stimulus kept the housing market under pressure. 
• Just as in November, confirming evidence of the disinflationary trends i.e., lower inflation, and the moderating (but still positive) growth backdrop appeared catalysts for improving market sentiment.
• In December, however, positive sentiment was reinforced by communication efforts from the US Federal Reserve Chair, Jay Powell, who informed interest rate cuts would be appropriate, in 2024, if inflationary trends persisted.
• Inflationary data this side of the Atlantic also opened the door for more accommodative language from the Bank of England and European Central Bank, though each choose to retain a more neutral-to-hawkish tone.
• The Federal Reserve’s relative dovishness, however, was interpreted as a show of confidence in the battle against inflation, putting interest rate hikes firmly in the rear-view mirror and increasing hopes of an economic ‘soft-landing’.
• In a ‘soft-landing’ scenario inflation falls fast enough to allow central banks to cut interest rates quickly enough to stimulate (rather than restrict) the economy and prevent unemployment from rising (at least meaningfully), and a recession is avoided.
• Such an achievement is a rare feat; however, it is our expectation the disinflationary trends can persist, and that economic growth can remain resilient (supported by high levels of employment), allowing markets to ride the ‘soft-landing’ wave for (perhaps several) months ahead.
• It is important to stress, however, there are non-negligible risks to this narrative.
• Whilst there is good reason to believe healing supply chains, housing market weakness and cracks in the labour market can prolong the disinflationary trend, hopes growth can remain positive throughout 2024 may be a step too far.
• No doubt the market has been surprised by the resilience of the economy to prior interest rate hikes, but the ‘long and variable lags’ to policy changes should remain front of mind.
• Whilst certain mortgage deals may allow segments of the economy to avoid the full force of interest rate hikes, not every consumer will be in such a fortuitous position.
• What is more, many channels of financing, such as credit cards, overdrafts and corporate lending will be much more sensitive to interest rate changes and will continue to bite into the economy as we move through 2024.
• Alongside risks to growth, we recognise an early pivot by the Federal Reserve may bolster consumer and corporate confidence too soon, reigniting demand, and inflationary pressures along with it.
• Such an outcome would put interest rate hikes firmly back on the table and, in anticipation of a more punishing recession, would probably be received poorly by markets.
• Geopolitical challenges which threaten an oil price resurgence, such as those in the Middle East, may yet compound this reflationary threat too (and the policy challenge for central banks).
• Investors should brace themselves, therefore, for a more volatile period ahead, as markets fret between extremes of soft-landing euphoria, inflation resurgence and recession.
• Yet, even in recession, we would argue all may not be lost for equity investors. Of most comfort would be the hope any such recession wouldn’t be as severe as more recent episodes.
• This more benign view hinges upon the apparent absence of major economic imbalances i.e. corporations and households don’t (in aggregate) appear to be facing quite such daunting refinancings challenges (except maybe UK mortgage holders) as in prior economic cycles.
• We should also remind ourselves that having moved off the zero bound, there are now some interest rates to cut! Such policy options might prevent a more pernicious downturn and prove sufficient to reignite economic and investor enthusiasm.
• Recognising how uncertain the outlook remains, however, as well as our philosophical belief in the need for humility when investing, MPS portfolios strive to seek appropriate levels of diversification to meet the investment challenges ahead.
• Relative to stocks for example, high quality corporate and government bonds might offer a more defensive return profile in the face of less encouraging growth outcomes, particularly given the increase in yields observed over recent months.
• Alternative asset classes also assist Invesco in its efforts to help diversify portfolios in a more troubling period for stock markets.
• Stay safe, stay well, and please get in touch if you wish to discuss any part of the Invesco MPS strategy further.
• Finally, may we take this opportunity to wish you a restful and joyous holiday season and a prosperous new year.

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