Has a ‘goldilocks scenario’ been priced in?

Skilled and active stock picking may be in order this year amid continuing volatility and geopolitical risks, according to new analysis.

The analysis from GSFM and its fund manager partner Tribeca Investment Partners, Man GLG and Payden and Rygel has pointed to local and global equity markets facing a challenging year ahead, notwithstanding hopes around an easing monetary policy.

GSFM investment strategist, Stephen Miller said moderating inflation in the US and the prospect of policy rate cuts might provide a more positive environment for equities but that this needed to be weighed against the possibility that the substantial rate reduction were already baked in.

With geopolitical risks remaining elevated, and structural forces likely to keep inflation higher, there will inevitably be episodes of volatility.

“There are a plethora of elections to be conducted around the globe this year, led by US Presidential elections,” he said. “At the same time, conflict in Gaza and Russia-Ukraine and increasing tensions between China and Taiwan and on the Korean peninsula could all weigh on global economic activity and keep prices elevated and add to supply bottlenecks.

“The consensus view is of a ‘goldilocks’ or resilient economy in which inflation declines to an extent that central banks can make cuts to policy rates. In this scenario, bond yields may fall and support equity markets,” Miller said. “But the ‘goldilocks’ scenario is largely priced and could potentially be upset by any number of variables from geopolitical challenges, structural forces keeping inflation higher and shifts in national and international regulatory regimes.”

“Alternately, recession risk, while one side of the risk continuum, is probably non-trivial. Much of the resilience in the US last year may have reflected a fiscal “sugar hit” as the US budget deficit grew to 7% of GDP despite the economy hovering at full employment. That may well abate this year, perhaps occasioning a sharper than anticipated growth slowdown,” Miller said.

“Such an environment emphasises the importance of diversification. It should also increase the potential return from skilled active stock-picking as volatility leads greater dispersion of individual stock returns.”

Tribeca Investment Partners lead portfolio manager, Jun Bei Liu, anticipates a robust upswing in the equity market, driven by further strides by central banks in curbing inflation and the start of interest rate cuts.

“We expect a short, contained economic slowdown rather than a prolonged one. We don’t think central banks or governments need to solve all the world’s concerns. Incremental gains are enough to allow many stocks that are discounted for a more severe downturn to trade higher particularly within the cyclical space or in areas where higher inflation and rates remain priced as structural rather than short term,” she said.

“Furthermore, because the economic slowdown has taken its time to unfold (rather than via a large shock), different stocks and sectors are at different stages of the cycle. This provides some resiliency when viewed across the market as some stocks can perform well while others come under pressure.

“We think equity valuations are reasonable. For equity investors, we should focus on incremental improvement as catalysts for upside and we think 2024 will see plenty of this.”