Overview

As 2023 comes to an end a US recession isn't in sight, yet economic conditions are uneven across the globe:

• The US economy has been able to absorb rate hikes and still post solid real GDP growth. Our base case for 2024 is a soft landing but if a recession does materialize, we think it would be a shallow one.

• The Eurozone is teetering on the brink of a winter recession. Economic activity is expected to struggle in early 2024.

• Although China's post-COVID rebound has disappointed, the economy is expected to moderate but still grow at a solid pace in 2024. Japan's growth will likely be supported by pent-up consumption demand, wage growth, and economic stimulus.

Executive Summary

Economic Outlook

• As 2023 comes to an end, a US recession isn't in sight. The economy has been able to absorb the Federal Reserve's (Fed) rate hikes and still post real GDP growth of more than 5% annualized in Q3. Our base case for 2024 is for a soft landing. If a recession does materialize, we think it would be a shallow one.

• Economic conditions are uneven across the globe. The Eurozone is teetering on the brink of a winter recession, while China's post-COVID rebound has disappointed.

• Elevated real interest rates and tighter credit conditions will likely weigh on rate-sensitive sectors in early 2024 before financial conditions ease later in the year amid the Fed's expected rate cuts.

• Japan's growth will likely be supported by pent-up consumption demand, wage growth, and economic stimulus.

• Eurozone economic activity is expected to struggle in early 2024. While the US has been able to shake off Fed rate hikes, European Central Bank (ECB) hikes have put the Eurozone in a precarious position.

• China's economy is expected to moderate, but still grow at a solid pace in 2024. The ongoing transition to a more consumption-led economy remains fraught with risks.

• Inflation has pulled back in 2023 due to the lagged effect of interest rate hikes as well as base effects. These trends are expected to persist as current higher rates continue to weigh on activity.

• Global central banks have begun to move from a tightening bias to a neutral or cutting bias.

• US markets have priced in ~150bps of rate cuts during 2024 amid encouraging trends in inflation and labor.

• The ECB is holding rates steady and a continued decline in inflation could prompt policy easing earlier in 2024 than the Fed. The Bank of Japan is expected to end its negative interest rate policy in H1 2024.

Market Outlook

• Equities had a strong 2023, though performance was concentrated in a handful of growth stocks. Fixed income was volatile as yields spiked amid changing rate expectations. Commodities declined as tight monetary policy and a strong dollar were negatives.

• US earnings growth turned positive in H2 and is on track to post modest growth in 2023, while EAFE and emerging markets saw earnings declines.

• Consensus earnings expectations for 2024 are for low double-digit growth in the US, moderate growth in other developed markets, and a double-digit rebound in emerging markets.

• While US equity prices relative to earnings have risen in 2023, valuations are not seen as excessive. Among large caps, performance broadened in late 2023. If this trend continues, we could see the equally weighted S&P 500 Index fare better in 2024.

• The Bloomberg US Aggregate Bond Index has yet to fully erase its losses from 2022, setting it up for at least some potential gains in 2024. While the risk of growth disappointment is a support, any stubbornness in inflation coming down to target could keep the Fed on hold for longer, leaving yields elevated.

• Rather than looking at bets among broad asset classes to add value, an alternative in 2024 will be to look within equities for niches where we see better opportunities.

• Regionally, Japan is attractive due to still-easy monetary policy, fiscal stimulus, and strong earnings growth expectations.

• Commodity returns are likely to be moderate but volatile in 2024. Tight monetary policy and a strong dollar could reverse in 2024 but downside risks from slower growth and higher-for-longer rates remain.

• While higher rates have improved our long-term outlook for multi-asset portfolios from a return perspective, building a diversified portfolio has become more challenging with equity/bond correlations remaining significantly positive heading into 2024.

• However, stocks' correlations with diversifiers such as commodities and safe havens (like gold) have turned negative, making them potentially attractive from a portfolio context next year.