Adam Hetts, global head of multi-asset, and Oliver Blackbourn, portfolio manager, at London-based asset manager Janus Henderson Investors, discuss the outlook for 2024, from a multi-asset viewpoint.

Adam Hetts and Oliver Blackbourn at Janus Henderson Investors highlighted that the last few months of 2024 saw strong performance across many asset classes as markets priced in interest rate cuts, seemingly in the context of an expected soft landing.

“Against this backdrop, both government bonds and risk assets, such as equities and corporate bonds, rallied as investors became convinced that we have reached peak interest rates,” Hetts and Blackbourn said in a note.

The rally took 2023 global equity returns, as represented by the MSCI AC World Total Return Index, to 22.8 per cent in US dollar terms and 15.9 per cent in sterling terms, as a more dovish outlook for the US Federal Reserve weighed on the US dollar, they added. Across corporate debt, credit spreads – the difference in yield between a corporate bond and a government bond of equal maturity – ended the year lower, with many areas at or close to 12-month lows. “The late drop in bond yields meant that over the course of 2023 as a whole, the US 10-year Treasury yield was unchanged at 3.87 per cent, completing a round trip from a high around 5 per cent in October. The UK and German equivalents saw yields decline over the year,” they added.

A better-than-expected outcome
“Expectations that the US economy would shrink in 2023 proved wrong, with the economy estimated to have grown by around 2.4 per cent over the year, supported by resilient US consumer activity,” Hetts and Blackbourn said. However, with less money in the bank and tighter access to borrowing, there are questions about consumer spending resilience, they continued. Consensus expectations are for average growth of 1.3 per cent in the US this year, 0.5 per cent in the eurozone and only 0.3 per cent in the UK.

Interest rate cuts coming
Investors have moved to price in very dovish expectations for major developed central banks. At the end of December 2023, expectations were that the Fed would make its first reduction in interest rates in March 2024, with 1.5 per cent of cuts implied across the calendar year as a whole, they said. A similar level of cuts was forecast for the European Central Bank (ECB) and a little more for the Bank of England (BoE). They find it hard to see how markets price in a faster rate of loosening without a significant deterioration in growth expectations. “A resilient US economy and continued elevated wage growth in the eurozone and UK are likely to keep central banks on alert for any stubbornness in inflation and potentially keep interest rates higher for longer,” they continued.

“Expectations for imminent and sustained interest rate cuts suggest a lot is already priced into government bond markets, unless concerns rise once more about the risk of a recession,” they said.

UBS Global Wealth Management meanwhile highlighted how equities and bond yields declined in tandem after the Fed unanimously decided last week to hold the target range for the federal funds rate at 5.25 per cent to 5.5 per cent and wait for "greater confidence" on inflation before rates are cut. “We believe the market is still too optimistic about the timing and pace of easing, with around 145 basis points of cuts still priced in for 2024 and a 33 per cent probability that the cuts will begin in March. Our base case remains that the Fed will reduce rates by 100 basis points in 2024, beginning in May, depending on the data," Mark Haefele, chief investment officer, UBS Global Wealth Management, said in a note.

High expectations
“Global equities currently look expensive in a broader context, but this is predominantly due to the high valuations of US stocks, particularly a small number of large growth stocks,” Hetts and Blackbourn added. “Long-term earnings growth expectations for US companies have risen to very high levels, due to significant optimism around the future potential of artificial intelligence to drive earnings. However, the forecasts exceed historical growth rates and look hard to justify without a paradigm shift in productivity growth,” they said. “More generally, global earnings expectations already price in a substantial rebound in economic activity at a time when economists predict a slowdown in 2024. It is difficult to see how both can be correct simultaneously,” they continued.

Markets outside of the US and smaller US companies remain arguably cheaper; Hetts and Blackbourn believe that they could perform well on confirmation of a soft landing. Forecasts for earnings look less demanding and tend to be more cyclical. However, this can play both ways, meaning that a harder economic landing may still see significant downside, even if from a less expensive starting point. A switch to more dovish policies (interest rate cuts) could be particularly helpful for smaller companies that tend to be most sensitive to borrowing costs, they said.

Risks in 2024
“As we begin 2024, there is considerable uncertainty to add to the interest rate risks that markets have been focused on for the last two years,” they continued. Geopolitical risks were features of 2022 and 2023, and violence in the Middle East and the potential for further escalation are likely to remain a concern for investors.

“The potential for a supply shock to global trade or energy markets remains an upside risk for inflation. Similarly, China continues to deal with the problems of a long-term build up in debt usage in key areas of the economy,” they said. Defaults from property developers, trust companies and potentially local government entities are sapping nascent investor sentiment, in the absence of a more concerted central government response.

“Finally, over half of the global population will be eligible to vote in 2024,” Hetts and Blackbourn continued. “At a time when it feels like there is increased division, elevated government debt levels in developed economies and greater uncertainty about how to deal with many global challenges, there is the potential for markets to find some potential outcomes difficult to digest.” 

In terms of financial markets, the late 2023 market rally left many assets looking somewhat overbought, amid signs of investor exuberance. â€śThe path to a soft landing remains a narrow one, with deviation in either direction having the potential to cause significant volatility. Better-than-expected growth outcomes may delay interest rate cuts and weigh on valuations, but weaker data may raise the spectre of a hard landing,” they said.  Hetts and Blackbourn believe investors need to be alert to incoming data and think about diversification in their portfolios.