Markets are powering through turmoil, but is a recession looming? Find out what we got right, what we missed, and what the rest of the year might have in store for investors.
Our Top Market Takeaways for April 11, 2023.
Looking back
Our report card
The first week of Q2 was a bumpy one. A handful of the latest reads on the economy—from leading indicators like PMIs, to gauges on the labor market—signaled slowing growth, particularly in the U.S. relative to its international peers. That sent bond yields lower and stocks down slightly from their recent highs.
In our 2023 Outlook, we asked investors to “See the Potential” for weaker growth but stronger markets. So far, that thesis is on track. While growth seems to be slowing down, and new challenges have arisen, markets so far have delivered a much stronger performance than they did in 2022.
Now that the first quarter is over, we wanted to revisit the core tenets of our 2023 Outlook to make an honest judgment about how things are shaping up and to provide our thoughts on what’s to come. We take each pillar of our Outlook in turn.
1. The best in a decade. A dramatic reset in valuations has, in our view, created one of the most attractive entry points for stocks and bonds in over a decade.
On track. Markets have powered through all the turmoil that 2023 has thrown at them. Through the first quarter, a diversified portfolio of global stocks and bonds has returned roughly +6% (in U.S. dollar terms). Over the last six months, that portfolio is up an even more impressive 10%. What is perhaps most encouraging is that stocks and bonds are both doing their jobs. Equities are driving appreciation (MSCI World +7.7%), while bonds are providing a stable ballast (global aggregate bonds +3.4%).
We believe multi-asset portfolios are on track to continue outperforming cash and inflation this year.
The chart describes the total YTD return (2023) in USD for 16 different data series under 5 categories (60/40 Portfolio, Equities, Fixed income, Commodities, Cash). Here are the total return numbers for the 16 series: Europe: 11.0% Gold: 9.3% EAFE: 8.3% World: 7.7% U.S.: 7.5% 60/40 Portfolio: 6.0% Japan: 4.4% Asia ex-Japan: 4.3% EM Equity: 3.9% U.S. Corporate HY: 3.7% U.S. Treasury: 3.5% Global Agg Bonds: 3.4% U.S. Agg. Bonds: 3.3% EM Debt: 2.4% USD Cash: 1.2% Commodities: -4.6%
2. Bad news, good news. The bad news: We think a recession is likely in 2023. The good news: Central banks should stop hiking and inflation will likely fall.
On track. But we’d caveat that while the U.S. economy looks likely to slip into recession by year end, prospects in Europe and China look better.
The turmoil in the banking sector seems like the latest sign that U.S. recession probabilities are elevated. Even if the most acute phase of the bank shock has passed, lending to small businesses from banks ought to be more impaired going forward.
On the other hand, it seems like inflation is past its peak across most of the developed world, and the process of a slow grind back toward more tolerable levels is underway. Encouragingly, wage inflation and other measures of labor market tightness do not suggest a wage-price spiral even though the labor market has remained resilient.
Given progress on the inflation front and financial stability concerns, the Federal Reserve appears to be on track to pause its rate-hiking cycle sometime this summer. The European Central Bank and Bank of England likely have a little more work to do, but still look to be a lot closer to the end of their tightening cycles than the beginning.
3. Bonds are back. Core fixed income now offers the potential for protection, yield and capital appreciation.
Exceeding expectations. Global core bonds are up more than +3% so far this year, and we still think fixed income is set to deliver steady returns in a slower growth and lower inflation environment. To be clear, bonds have seen a strong rally over the last month (10-year U.S. Treasury yields are down to 3.4% from a year-to-date high over 4%) as softer inflation data and financial turmoil have emboldened the market to start pricing rate cuts as soon as this summer. In the very near term, it seems like markets may be getting ahead of themselves. Bonds have exceeded expectations so far this year, and we may get better entry points in the weeks and months ahead.
But this is how we would think about it as long-term investors: the Bloomberg Global Aggregate Bond Index is down over 10% from its all-time highs. Over the last 40+ years, this is still the biggest dip in core bonds that investors have had the opportunity to buy.
The chart describes the % change of Bloomberg Global Aggregate Index from prior all-time high from January 1990 to April 2023. The Bloomberg Global Agg did not draw down more than -5% from its all-time highs for the first ten years of the series. In May 2000, it pulled back -9% from its prior all-time high before recovering and then fluctuating no more than 5% from all-time highs for the next few years. The next big drawdown came in October 2008, when the Global Agg had fallen -10% from all-time highs. However, the biggest drawdown in this series came in 2022, where the Global Agg fell -26% from its all-time high. It has since recovered slightly but remains -17% off this prior peak.
4. Reversal of fortunes. We expect mega-cap technology stocks to underperform and small-cap stocks to outperform.
Needs improvement. Mega-cap tech has soared this year. The NASDAQ 100 is up +20% and the NYSE FANG+ Index is up almost +40%. Meanwhile, mid- and small-cap stocks are both up a relatively meager +1-2%. We still expect U.S. SMID-cap stocks to outperform their large-cap peers over the course of the next cycle, but this particular call needs improvement to prove correct.
After releasing our outlook in December, we also warmed up to European and Chinese equities. Europe has posted a very solid +9% return in local currency terms (+11% in USD terms) so far this year (outperforming the S&P 500’s +7%), and China offers investors with a higher-risk, but potentially higher-reward equity market, given tailwinds from reopening and shifting policymaker priorities. Neither has kept up with the mega-cap behemoths, but we believe they are poised for a relatively strong rest of the year.
5. Real money. The era of underinvestment in the real economy is over.
Keep up the hard work. This one is too early to tell, but all the seeds are sown for an era of investment in the physical economy. Shortages in housing, infrastructure, transportation and energy will likely take years to correct.
In Europe, plans are underway to spur investment in the energy transition and defense, and the COVID-era EU Recovery Fund already got a jump start on digitizing and boosting critical infrastructure. In the U.S., as our Chairman and CEO Jamie Dimon noted in his annual letter, several recent legislative initiatives such as the Inflation Reduction Act and CHIPS Act have the potential to catalyze ~$1 trillion in clean technology development.
In the near term, real economy sectors such as autos, homebuilders and semiconductors have outperformed so far this year, but this is a thesis that we expect to play out over the course of the next decade.
As for what we’re watching, we’re adding a few courses to this quarter’s syllabus to gauge the path forward:
Economics: The Art of the Pivot. Central banks have the tall order of cooling the economy down with as little economic pain as possible. But with inflation sticky, the most likely cost of getting things under control looks like a U.S. recession in the second half of this year, and a slowdown (but not a recession) in Europe. The trick will be raising rates high enough and holding long enough to slow things down, while also knowing when to start cutting when growth becomes precarious. The bite of last year’s rate hikes and tighter lending conditions from banks should pressure growth further. We think this means the Fed will hike once more in May and hold on until the final months of this year, when our base case of a recession will likely unfold. The ECB is on a similar path, but a pause may not be as imminent. For investors, when and how central banks pivot could provide some much-desired clarity.
History: Is This Time Different? The Study of Crises. In addition to combating inflation, central banks are focused on the separate but intertwined task of maintaining financial stability. While there may be further shocks, we believe this situation looks very different from the Global Financial Crisis and Eurozone sovereign debt crisis, and bank stress is showing meaningful signs of easing. That said, confidence can be tricky, and it will be a dynamic we’ll continue to watch.
Finance: The Business Life Cycle. It matters how this all affects corporate profits. Heading into this year, many expected earnings to rapidly deteriorate and catalyze another round of market weakness. And while momentum is definitely slowing, the last quarter showed that the average company in the S&P 500 still grew earnings by 3%. European companies defied odds through much of last year, with earnings expectations actually moving higher.
That said, headwinds such as slower growth, higher prices and general business uncertainty must then also be weighed against tailwinds such as growing efforts to cut costs, stronger supply chains and a weaker U.S. dollar (which makes it easier for U.S. multinationals to do business abroad). How businesses are impacted by the changing tide—and react to it—will be key, and we’ll get a further sense of this as Q1 earnings season kicks off this Friday.
Home Economics: Personal Finance and Planning. We’ve said over the last few weeks that steady hands often prevail. While markets can always have a bad day, week, month or even year, history suggests investors are less likely to suffer losses over longer periods—especially in a diversified portfolio.
Coming off the back of the holiday weekend, we’d like to say a quick thank you to all our readers. We’re grateful to be able to share our insights with you. Here’s to the rest of the year ahead.
Your J.P. Morgan team is here to discuss what it all means for you.
Investing in fixed income products is subject to certain risks, including interest rate, credit, inflation, call, prepayment and reinvestment risk. Any fixed income security sold or redeemed prior to maturity may be subject to substantial gain or loss.
Small capitalization companies typically carry more risk than well-established "blue-chip" companies since smaller companies can carry a higher degree of market volatility than most large cap and/or blue-chip companies.
International investments may not be suitable for all investors. International investing involves a greater degree of risk and increased volatility. Changes in currency exchange rates and differences in accounting and taxation policies outside the U.S. can raise or lower returns. Some overseas markets may not be as politically and economically stable as the United States and other nations. Investments in international markets can be more volatile.
Diversification does not ensure a profit or protect against loss.
The Bloomberg U.S. Aggregate Bond Index is an unmanaged, market-value weighted index comprised of taxable U.S. investment grade, fixed rate bond market securities, including government, government agency, corporate, asset-backed, and mortgage-backed securities between one and 10 years.
Standard and Poor’s 500 Index is a capitalization-weighted index of 500 stocks. The index is designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.
The NASDAQ 100 Index is a basket of the 100 largest, most actively traded U.S companies listed on the NASDAQ stock exchange. The index includes companies from various industries except for the financial industry, like commercial and investment banks. These non-financial sectors include retail, biotechnology, industrial, technology, health care, and others.
The MSCI World Index is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed and emerging markets. The index consists of 23 developed market country indexes and 24 emerging market country indices.
The NYSE FANG+ Index is an equal-dollar weighted Index designed to represent a segment of the technology and consumer discretionary sectors consisting of 10 highly-traded growth stocks of technology and tech-enabled companies.
All market and economic data as of April 2023 and sourced from Bloomberg Finance L.P. and FactSet unless otherwise stated.
We believe the information contained in this material to be reliable but do not warrant its accuracy or completeness. Opinions, estimates, and investment strategies and views expressed in this document constitute our judgment based on current market conditions and are subject to change without notice.
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