- We believe that the creeping economic slowdown in the United States will probably persist for a few more months, with a recession possible over the next 12-18 months. The onset of the recession may be delayed until 2024.
- In our view, equities have limited upside with recession risks on the horizon. We see U.S., UK, and German bonds as offering reasonable value.
- We think eurozone inflation is likely to decline amid falling energy prices.
The U.S. economy is defying predictions of a 2023 recession. We think a recession is likely, but it may be delayed until 2024. Inflation is receding only slowly, and central banks have still not finished tightening. We are positive about government bonds. Enthusiasm for artificial intelligence (AI) and resilient economic growth can support stocks in the near term, but longer-term headwinds are building.
Key market themes
A character in Ernest Hemingway's novel The Sun Also Rises, when asked how he went bankrupt, answers "gradually, then suddenly." This is a good description of the U.S. economic outlook. Forward-looking recession indicators such as the inverted Treasury yield curve, tighter bank lending standards, weak manufacturing activity, and depressed consumer confidence readings are all flashing warning signs. Meanwhile, measures of real economic activity, such as job growth and household spending, are only gradually moderating.
Mega cap stocks are once again dominating the performance of the U.S. equity market, but this time their strength is due to excitement around generative AI technologies such as ChatGPT. Case-in-point: Almost all the S&P 500® Index gains so far this year have been delivered by stocks linked to AI. For now, though, we believe that aggressive U.S. Federal Reserve (Fed) tightening and the risk of a recession will likely keep a lid on AI euphoria.
We believe that the creeping economic slowdown in the United States will probably persist for a few more months, with a recession possible over the next 12-18 months. In our opinion, the tipping point will likely come when corporate profit pressures force firms into austerity measures such as layoffs and capital expenditure delays, and households—having exhausted pandemic savings from extra government payments and staying at home—respond by cutting back on discretionary spending.
In Europe, we think the region's economy is already starting to buckle under the strain of monetary tightening. For instance, lending growth has collapsed, and the credit impulse is the most negative since the 2007-08 financial crisis. While eurozone equities have performed broadly in line with U.S. equities so far this year, we expect they'll soon face the cycle challenges of tight monetary policy and recession risks. Malaise is the best description of the UK economy. GDP (gross domestic product) has barely grown over the past year and is still lower than before the pandemic in 2019. Meanwhile, core inflation continues to move higher, hitting 6.8% in April. The persistence of inflation has forced the Bank of England (BoE) back to a hawkish stance.