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Quarterly Market Outlook: Q4 2022

Inflation is the utmost priority

Since the central bankers' symposium in Jackson Hole at the end of August, the synthesis of which was a tougher dialectic, the widespread move from talk to action in the form of further interest rate hikes by monetary authorities in recent weeks has been the main catalyst for the latest corrective turn of events across most of the market's asset spectrum. Economic activity in the United States remains too robust to eradicate inflationary tendencies in that economy.

Europe, however, continues to experience inflationary tremors with energy prices at their epicenter. Doubts about energy supply cast a shadow over the growth outlook, and leading indicators of economic activity point to a significant slowdown in the coming quarters. In China, the repercussions of the property market adjustment continue to have a negative impact on the economy.

Our suggestion is to maintain a defensive tone in risk allocation in portfolios with less exposure to the most cyclical sectors and assets. A great deal of adjustment has already occurred but the dynamics of high inflation and lower growth still persist.

01. Still more work to do to fight inflation

The level of concern about the harmful effects of high inflation levels has reached heights unseen in recent decades. In Europe, uncertainty about energy supply has increased throughout the third quarter. Rising gas and electricity prices augur a difficult winter in terms of inflation figures and household budgets. In the United States, a turning point in the statistics is beginning to emerge, but the concern is shifting to services inflation.

Europe has inflation problem due to a supply shock and the United States due to excess demand

Inflation differs in nature

02. Lower growth is the price to pay

The three main economic blocs assimilate the necessary cost of economic growth to mitigate the effects of economic policy errors. In the United States, the Fed assumes that it is necessary to slow down the economy in order to avoid inflationary risks arising from excessive monetary stimulus. In Europe, the geopolitical mistake of energy dependence on Russia will take its toll in the coming quarters, and the Chinese authorities face the difficulty of stabilizing the real estate sector and health risks. The market is beginning to assume the cost in global economic growth needed to stabilize inflation (United States), energy supply (Europe) and real estate leverage (China).

The economic growth shock derived from the inflationary shock continue to increase

Growth expectations have been revised downward since the start of the conflict in Ukraine

03. The adjustement in earnings is lagging

Fixed income markets have heard the message from central banks and have taken on greater doses of monetary tightening. The dramatic tightening of interest rates is already raising hopes of a turnaround in inflation and in high credit quality bonds’ valuation. The adjustment in terms of growth is still incomplete and a deterioration in the performance of the most cyclically sensitive assets (credit and equities) is foreseeable. We maintain a defensive bias pending the adjustment in earnings expectations.

Continued upward adjustments in interest rate levels allow for high short-term yields

Interest rates start to offer real value relative to long-term inflation


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