With the continued hawkish stance of many central banks making the chance of a soft landing less likely, investors need to lower their overall risk appetite while taking both tactical and strategic advantage of undervalued opportunities in the emerging world.
Based on Fidelity International’s third quarter 2023 investment outlook, this can be achieved via a mix of allocating to higher quality and liquid assets, playing the long game in China, and keeping wary of corporate sentiment.
This will help tackle a situation where markets oscillate between resilience and fragility, due to abundant liquidity and tight labour markets on the one hand, and the lagged effects of policy and tightening lending standards on the other.
Fidelity also believes Asia is the bright spot in a gloomy global economy. The region’s story of rebounding growth looks promising, depending on key factors such as the momentum in consumption, policymakers’ appetite for step-up support and the degree of weakening in external demand.
Riding a fragile resilience
Although excess savings that accrued during Covid-19 and continued tightness in labour markets are prolonging what Fidelity sees as an inevitable recession, this resilience is sowing the seeds for fragility down the line, explained Andrew McCaffery, the firm’s global chief investment officer.
“A cyclical recession, in which unemployment in the US rises to around 5% over the next 12 months, is the most likely outcome,” he added.
As a result, Fidelity believes investors should be more proactive and capture mispriced equity valuations. More specifically, with the US and Europe having already seen strong gains as central banks become more hawkish again, parts of the emerging world look attractive, particularly in relative value terms.
“From an asset allocation perspective, we believe investors should be wary of taking on too much risk at this late stage of the cycle. Here, investment grade credit provides yield and flexibility,” said McCaffery.
Patient with China
China also offers an appealing longer-term opportunity amid the market backdrop, despite its underwhelming rebound from its zero-Covid policy.
McCaffery believes muted consumer confidence is to be expected after three years of restrictions. Looking forward, he sees positives in the accommodative monetary and fiscal policies, along with an improving regulatory backdrop. Further stimulus measures may arrive soon.
At the same time, the disconnect between the market’s expectation and the reality of the recovery has left Chinese equities trading at a significant discount, added Fidelity in its outlook.
“While it may feel like China has taken two steps back, the next move could be three forward. This may feel slightly contrarian at present, but it is an attractive entry point, especially as there are some signs of stabilisation in the US/China relationship,” said McCaffery.
Corporate sentiment stabilising
Fidelity is also closely watching the state of corporate sentiment over the next few months, which is fluctuating and difficult to predict.
For example, the firm’s analysts had observed a worsening mood earlier in the year at the companies they follow. However, they saw an uptick in June.
“Nevertheless, we view improving corporate management sentiment as a possible sign of complacency given the policy lags,” explained McCaffery. “Persistently high wage cost pressures throughout developed markets suggest that central banks are far from done, even if non-labour costs are likely to turn disinflationary this quarter.”
As a result, the firm plans to closely monitor how the sentiment and price trends, at both input and pass-on to customers, evolve in the next few months.
