Russell Investments’ strategists still expect global markets to generate moderately above-trend growth for 2022, despite an array of short-term risks and longer-term issues erupting from Russia’s war in Ukraine. The team believes growth will support equities over bonds and cash amid continued market volatility due to the significant uncertainty created by the conflict.
“Markets had plenty to worry about before the invasion, including the onset of U.S. Federal Reserve (Fed) tightening, the impact of COVID-19 lockdowns on supply chains and inflation, as well as the outlook for China,” said Andrew Pease, global head of investment strategy at Russell Investments. “We expected global growth to moderate from the post-lockdown surge in 2021 but remain above trend in 2022. The consequences of the invasion are lower global growth, with Europe taking the largest hit, coupled with higher inflation.”
Russell Investments’ strategists believe the war is unlikely to reduce U.S. growth by more than half a percentage point, while the impact on European growth is likely to be 1.5-2 percentage points. This would take 2022 gross domestic product growth (GDP) projections to 3% for the U.S. and 2.5% for Europe.
“2022 still looks to be a year of above-trend growth as strong household and corporate balance sheets keep the economy on firm footing for now,” Pease said.
While the war in Ukraine has injected further uncertainty into the outlook, Russell Investments’ strategists believe the U.S. should be among the most resilient economies globally given its energy independence and lower share of commodity consumption in GDP. More broadly, the team sees the business cycle as rapidly maturing, the labor market remaining tight and the Fed on a path to more restrictive monetary policy. They also see recession risks gradually increasing from the rock-bottom levels earlier in the recovery.
According to Russell Investments’ cycle, value and sentiment investment decision-making process, U.S. equities are seen as expensive, UK and emerging markets are at fair value and Europe is now only marginally expensive given recent market declines. The Japanese market also scores as slightly expensive. On balance, the team still expects the cycle to be supportive for global equities, while headwinds remain for government bonds.
“Sentiment for equity markets is firmly oversold but not yet at the level of panic reached in late 2018 and early 2020,” Pease said. “The cycle uncertainty means we are looking for clearer signs of market panic before recommending a risk-on stance.”
At the beginning of Q2 2022, the team’s asset-class preferences are summarized as follows:
- Small preference for non-U.S. developed equities toU.S. equities. “Provided hostilities subside, above-trend global growth should favor relatively cheaper non-U.S. markets,” Pease said.
- Neutral stance for emerging markets (EM) equities, which face headwinds from the China slowdown, high energy and food prices, as well as central-bank tightening across other economies to contain inflation pressures. “EM equities could recover if there is significant stimulus in China, the Fed slows its pace of tightening, energy prices subside and the U.S. dollar weakens,” Pease said.
- Neutral outlook on credit markets. The high yield spreadis still low by historical standards and investment grade credit spreads, which widened following the Russian invasion of Ukraine, are back to their longer-term averages. “High yield spreads will be at risk if the Russia/Ukraine conflict escalates but could perform well if hostilities subside and the cycle outlook improves,” Pease said.
- Government bond valuations are mixed after the recent selloff, with the U.S. now fairly valued and Japanese, German and UK bonds still expensive. “Yields will face upward pressure from continuing inflation increases and central-bank hawkishness,” Pease said. “A positive for government bonds is that markets have fully priced potential tightening by most central banks, and this should limit the extent of any further selloff.”
- Regarding real assets, the team expects both global listed infrastructure (GLI) and real-estate investment trusts (REITS) to benefit if Russia/Ukraine hostilities subside, the pandemic recovery resumes and inflation concerns continue. Regarding commodities, which has been the best-performing asset class with energy and agricultural prices surging on the Russia/Ukraine conflict, the team expects some of these gains will be reversed if hostilities subside, but strong global demand and supply bottlenecks should support prices. “On balance, the case for commodities exposure is still positive,” Pease said.
- The U.S. dollar, which has made gains this year on Fed hawkishness and safe-haven appeal during the Russia/Ukraine conflict, is expected to weaken if hostilities subside and lower inflation outcomes later in the year lead to less Fed tightening than markets currently expect. The team sees the main beneficiaries to be the euro, which has become more undervalued, and the Japanese yen, which has weakened on commodity price inflation and China growth concerns.
For more information, please see the team’s 2022 Global Market Outlook – Q2 update