“The trend is your friend” says AXA IM

AXA Investment Managers’ (AXA IM’s) Chief Investment Officer for Core Investments, Chris Iggo, has put forward the view that lifting markets could soon deliver the “2021 highs” for risky assets.

Iggo said while expectations of a bear market are somewhat justified, he emphasised the uncertainty surrounding an economic hard landing or inflation kicking up again after successive drops in global indexes.

“Markets have been on a bull run of late. Changing perceptions of the macroeconomic outlook have driven strong returns,” he said.

“The consensus outlook derived from market developments has shifted towards a ‘soft landing’ for the US and other major economies.

“Inflation is falling and this has encouraged bond markets to reduce their expectations of peak interest rates and, more importantly, to revise down pricing of where official policy rates will be in 2024.”

Iggo said he was doubtful of a hard landing, classified by an officially declared recession, but highlighted how the current monetary tightening cycle is close to complete.

“Recent market moves are based on an expected higher profitability of an easing cycle starting in early 2024. Both bonds and equities have benefitted. The extent to which they can continue depends on how the economic cycle unfolds from here,” he said.

“Inflation has come down a lot but getting it back to 2% could require more of a cost in terms of creating spare capacity (lost output) in the economy. We just don’t know at this stage. Investors are looking at the phase of the cycle right in front of us – falling inflation and interest rates eventually being cut.

“But there are other scenarios. Anticipating a scenario of recurring inflation and more active monetary policy over the medium term is not easy. If the economy is at full capacity, the risk is that monetary easing in 2024 boosts growth and raises inflationary concerns again. This would ultimately limit the extent to which rates can fall and keep more of a risk premium in interest rate curves. Consistently positive equity returns would be difficult to attain in such an environment.

“By contrast, a classic hard landing would take the economy well below full employment, bring inflation down to very low levels and allow rates to be cut meaningfully and to stay low to promote recovery.”

The investment strategist said that while the US economy has seen stronger-than-expected growth, the risk of a hard landing remains for investors to “reassess equities and high yield even though return indices remain below the highs they delivered in the second half of 2021”.

“The most conservative investment strategy remains cash and short duration assets. Cash returns will remain high in the short term but will move quickly lower in a hard landing scenario, while risk asset returns should outperform in a soft-landing scenario where profit downgrades and high yield defaults are limited,” he said.

“It’s hard to be overly bearish on any asset class but this could change as the data unfolds. In cash or in bonds and maybe in equities, returns are likely to go back to being positive in real terms as the 2022-2023 inflation hump fades away. Those 2021 highs in equity and high yield return indices are not that far away.”