As we look back on 2023, the real surprise for investors was not the succession of geopolitical shocks but rather the extraordinary resilience of the world economy.
At the start of the year, the challenges looked formidable, with war and an energy crisis in Europe, supply chains still disrupted by Covid and deteriorating China-US relations. Come October, investors faced the consequences of the Israel-Hamas war, which could yet widen into a regional conflict.
But economic growth didn’t stall. Indeed, the US actually saw a significant re-acceleration in third-quarter growth. Momentum will now slow as interest rates bite, but the American economy looks set to achieve a rare thing – a soft economic landing.
Meanwhile, the UK and Europe will probably not escape recession but any downturn will be mild.
Disinflation is becoming the norm
The good news in 2023 was not confined to growth. Consistently weaker inflation data in the US and Europe fed a growing narrative that central bankers will ease monetary policy in 2024. Behind these disinflationary trends lies the healing of post-Covid supply chains, softer capital goods prices (especially from China) and steadily lower energy costs.
It is this near-Goldilocks scenario, including the real prospect of a soft landing, that fuelled investment gains. The rally was most evident among the so-called Magnificent Seven, which accounted for a staggering two-thirds of the rise in the S&P 500 last year, reflecting optimism about the break-neck pace of development and deployment of artificial intelligence (AI).
Beware geopolitics
Looking ahead, the geopolitical risks today seem even more daunting than they did a year ago. Of greatest immediate concern is potential escalation in the Israel-Hamas war, which now reaches the Red Sea and Israel’s border with Lebanon.
So far, the absence of a wider regional conflict has allowed energy prices to fall, with none of the strategic reductions in supply (outside of regular OPEC+ meetings) that marked earlier Arab-Israeli conflicts.
We believe this crisis can still be contained: there is little evidence Iran wants to escalate the conflict or that the larger Arab states want to use oil to ‘punish’ the West. Human suffering on both sides remains intense and that must be policymakers’ priority.
More than 70 countries will hold elections in 2024, with more than two billion voters heading to the polls
Meanwhile, the stalemate in Ukraine looks set to remain, albeit with horrific attacks on civilian infrastructure. We believe ways will be found to deliver the aid to Ukraine that is currently stalled in the US and EU.
Any diplomatic route towards a settlement in 2024 would likely help market sentiment. Meanwhile, with Europe having largely severed its links to Russian energy, Russia’s ability to put pressure on the West is greatly reduced.
Is there value in Chinese equities?
From an investor’s perspective, the question is whether talks between the presidents in San Francisco last November are enough to stem the outflow of capital from Chinese markets in the face of an extraordinarily hostile and bi-partisan US Congress. Chinese equity markets were the stand-out underperformers last year: while the S&P 500 is now 24% higher than it was three years ago, the MSCI China is 50% lower.
Following our analysts’ visits to China and Hong Kong last year, we remain defensive. Before committing funds to the region, we would like to gauge China’s reaction to Taiwan’s national elections, evidence that residential property prices are starting to bottom, together with convincing moves by the Chinese government in support of foreign inward investment.
The investment risks posed by the US election could be meaningful, particularly if Trump’s universal tariffs are enacted
Xi’s outreach to US executives on his Californian visit was a step forward, but China’s abrupt new regulations for gaming companies in late December were a step back.
A super, super-election year
More than 70 countries will hold elections in 2024, with more than two billion voters heading to the polls. The UK may also see a general election, but with little to choose between Conservative and Labour economic policies, investment risk should be low.
The headline-grabber remains the November US elections. Recent polls show Donald Trump consistently ahead of President Biden, despite ever-mounting legal challenges, but early presidential polls are notoriously unreliable.
It is also worth remembering Trump’s last presidency was rewarding for equity investors. It saw the S&P 500 rise by more than 50% – a figure substantially above the average for presidencies since the 1980s. The investment risks posed by the US election could be meaningful, particularly if Trump’s universal tariffs are enacted.
A broadening of market leadership?
In recent times managers found themselves operating in a market focused on just one theme – AI. Other high-growth themes were largely ignored by the market, including robotics, climate transition, smart buildings, electrification and medical diagnostics. In short, real value is building up across several investment themes, such that if market returns do broaden, they are well placed to deliver strong returns.
Elsewhere, after a dull 2023, the opportunities in global equity income look promising, with global dividend growth now expected to be in excess of 8% in 2024, well ahead of inflation. Valuations too are attractive, with the MSCI World High Dividend index offering a yield close to 4% and a forward price/earnings multiple of just 11.
Investment policy implications
The prospect of lower inflation and resilient economic growth were powerful drivers of investment markets in the final quarter of 2023.
Market leadership will likely broaden in 2024, which should allow other investment themes offering long-term growth at reasonable valuations to shine as the year progresses. In particular, in a climate of falling interest rates, the opportunities for equity income mandates with strong dividend growth should also return.
Guy Monson is senior partner and chief market strategist at Sarasin & Partners
