Markets Brace for Lower Returns and Higher Volatility
PGIM Quantitative Solutions explains why macro conditions continue to support risk assets despite expectations for moderating economic and earnings growth.
In the first half of 2021, cyclical stocks rebounded sharply and inflation began to rise. In the second half, as COVID-19 vaccinations became more widespread, investors made decisions based on expectations that global economies would continue reopening and return to pre-pandemic normalcy. With continued supply-chain challenges and volatile global markets on the horizon, investors want to know the key trends that might shape their portfolios in 2022 and beyond. Our PGIM asset managers assess the current investment landscape, share their perspectives on these trends, and offer ideas for investors seeking to capitalize on the opportunities ahead.
Markets at a Glance
The global economy continued to recover throughout 2021 from the pandemic-induced recession that began in 2020. Massive fiscal and monetary support, along with the rollout of COVID-19 vaccines and treatments, unleashed significant pent-up consumer demand. The recovery has been strong but uneven. While growth was robust in the first half of 2021, it hit a speed bump starting the third quarter as the Delta and Omicron variants spread globally. Solid consumer income, excess savings, inventory rebuilding, and increased business investment should keep the expansion going in 2022, though it likely will slow from the robust pace of 2021.
Bond spreads peaked in the spring of 2021 but compressed later in the year. With inflation rising, global central banks have started phasing out emergency measures that they implemented to support their economies during the pandemic. In the U.S., the Federal Reserve has turned hawkish, with plans to increase the pace of its tapering of monthly bond purchases and to increase short-term interest rates in 2022. If bond yields rise further in 2022, bond returns may suffer. Yet fixed income often serves as a critical downside hedge against equity market volatility. Opportunities to outperform remain in credit sectors, but they require rigorous risk analysis.
U.S. stocks delivered stellar returns in 2021, although global returns were mixed. Equity valuation multiples improved in 2021, with the price-to-earnings (P/E) ratio contracting for many stocks. While the forward P/E on the broad-based S&P 500 Index has fallen, it remains elevated relative to its 10-year average but doesn’t appear to be excessive. Profit growth is expected to slow in 2022, though it should remain strong enough to continue supporting equity markets, even if interest rates rise. Higher inflation will impact asset classes differently, making it important for portfolios to include a variety of styles and sectors.
The real estate recovery may transform into a robust expansion in 2022 due to above-average demand. Cities are seeing signs of improved rental growth, with central business districts and centrally located apartments benefiting from a sharp increase in hiring. Net operating income for retailers is rising as consumers increase spending. Supply growth is set to increase in coming years, although it may trail historical averages. While the significant gap between the best- and worst-performing segments of the real estate market may persist, the differences are starting to narrow and location likely will drive the industry’s performance once again. Elevated inflation will likely be an additional tailwind for the sector, so REITs may serve as an attractive inflation hedge.
2022 Investment Themes
Lower Growth, Rates, and Inflation Lie Ahead
PGIM Fixed Income explains why despite the Fed’s hawkish shift, they expect lower economic growth, range-bound rates, and lower inflation over the long term.
Bond Investors Benefit from Market Dislocations
PGIM Fixed Income discusses why conditions favor alpha over beta in fixed income markets and where to find attractive spread opportunities.
Secular Growth Reasserts Leadership as Economy Slows
Jennison Associates explains why they believe secular growth stocks will regain market leadership and tech-driven growth still has room to run.
Real Estate Recovery Accelerates in Select Areas
PGIM Real Estate discusses short- and long-term opportunities for real estate investors as economies reopening, reflation, and recalibration trends continue.
Volatile Markets Raise Tax Loss Harvesting Opportunities
PGIM Custom Harvest discusses how direct indexing can help turn volatility into opportunity by harvesting losses to offset gains for better after-tax returns.
Quarterly Market Outlooks
PGIM Fixed Income 1Q22 Outlook
In its 1Q 2021 outlook, PGIM Fixed Income shares their views on the current economic environment and outlook for fixed income markets.
Secular Growth Demand Revives in 2022
Jennison Associates’ 1Q 2022 Outlook explains how a growth slowdown and valuation reset will impact equity sectors and revive demand for secular growth stocks.
Expect a More Turbulent and Less Rewarding Year
PGIM Quantitative Solutions’ 2022 Outlook explains why stocks should have a solid, albeit not as stellar, year despite slowing economic and profit growth.
Re-opening, Reflation and Re-calibration Continue to Provide Tailwinds
PGIM Real Estate shares its views on the current economic environment and outlook for global real estate securities.
S&P 500 Index is an unmanaged index of 500 common stocks of large U.S. companies, weighted by market capitalization. Indices are unmanaged and are provided for informational purposes only. Investors cannot directly invest in an index.
Risks—Investing involves risks. Some investments are riskier than others. The investment return and principal value will fluctuate, and shares, when sold, may be worth more or less than the original cost. Fixed income investments are subject to interest rate risk, and their value will decline as interest rates rise. Foreign investments may be volatile and involve additional expenses and special risks, including currency fluctuations, foreign taxes, and political and economic uncertainties. Investing in emerging markets is very risky due to the additional political, economic, and currency risks associated with these underdeveloped geographic areas. Investments in growth stocks may be especially volatile. Value investing involves the risk that undervalued securities may not appreciate as anticipated. It may take a substantial period of time to realize a gain on an investment in a small or midsized company, if any gain is realized at all. Real estate investment trusts (REITs) may not be suitable for all investors. There is no guarantee a REIT will pay distributions given the inherent risks associated with the market. A REIT may fail to qualify as a REIT as defined in the Tax Code, which could affect operations and negatively impact the ability to make distributions. There is no guarantee a REIT’s investment objectives will be achieved. Diversification and asset allocation do not guarantee profit or protect against loss.
The views expressed herein are those of investment professionals at PGIM Fixed Income, Jennison Associates LLC (“Jennison”), PGIM Quantitative Solutions, PGIM Real Estate, PGIM Custom Harvest and PGIM Investments at the time the comments were made and may not be reflective of their current opinions and are subject to change without notice This commentary is not intended as an offer or solicitation with respect to the purchase or sale of any security or other financial instrument or any investment management services. This commentary does not constitute investment advice and should not be used as the basis for any investment decision. This commentary does not purport to provide any legal, tax, or accounting advice. PGIM Investments LLC is a registered investment advisor with the U.S. Securities and Exchange Commission. PGIM Custom Harvest does not provide tax, legal, or accounting advice. This material is for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal, or accounting advice. You should consult your own tax, legal, and accounting advisors before engaging in any transaction.
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