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Investment outlook: Watching the Fed, silver-lining signs

Gaurav MehraMD/Senior Partner - Head of Macro Trading

  • As the Fed’s ‘liftoff’ begins, investors are focused on the inflation outlook, China’s Covid crackdown and any signs of a Ukraine ceasefire
  • We don’t see recessions ahead: Western growth is still strong post-pandemic, oil prices have fallen and China is still stimulating its economy
  • Once market selloffs bottom-out, we will see opportunities to build exposure in stocks that now provide deep value.

As we wait for the US Federal Reserve to begin raising interest rates, the war in Ukraine, commodity price shocks and China’s zero-tolerance Covid lockdown have combined to weigh on market sentiment. We look ahead to the silver lining that should follow selloffs.

The Federal Reserve’s well-signaled interest rate hike ‘liftoff’ will be closely watched for Chairman Jerome Powell’s comments on inflation expectations and for indications of how many rate hikes to expect in 2022. For now, the market is pricing seven rate hikes of 25 basis points each, during the course of 2022.

At the start of this year, markets had expected US inflation to reach an annualised 5%. Today, prices are rising closer to 8% and if energy markets continue to spike, we may see inflation reach double digits around the Western world. That would weigh on market risk appetite, as well as put the Fed and other central banks under tremendous economic and political pressure. However, if markets were to continue to slow into the second quarter of 2022, and a ‘stagflation’ scenario takes hold, the Fed may have to pause or stop its tightening path.

We don’t believe that will happen because growth is still above trend in the US and Europe. Historically, periods of rampant inflation were preceded by oil shocks. It’s true that oil has proven extraordinarily volatile on supply concerns in recent weeks. Yet in the space of days, crude has fallen from USD 130 per barrel to below USD 100. That suggests that markets are either pricing a resolution to the Ukraine war, or we are seeing some profit-taking ahead of the Fed’s decision.


It is too early therefore to talk about recessions. Some of the signs are there, of course: the yield curve on US government bonds is flattening, with two-year bonds paying only marginally less than ten-year paper. But while an inverted yield curve is traditionally a recession indicator, unemployment remains close to record lows, firms are well capitalised and consumers still hold reasonable levels of savings following the pandemic.

In China, monetary policy remains accommodative, with more rate-cut and fiscal stimulus. Chinese stock valuations, trading at nearly a 40% discount to US equities, may start to present buying opportunities if the country can contain its Covid outbreaks and find an amicable resolution to the listing of its ADR stocks in the US.
Gold and industrial metals still offer a geopolitical hedge for portfolios, and markets remain long on the US dollar as a haven.

Despite the inevitable volatility across equities and commodities in coming weeks, we may be close to the end of the selloffs as markets come to terms with uncertainties. Bond and equity markets in the US have now shed USD 18 trillion of investment over the past five months. When such markets rally, they tend to do so by double digits.


With investors continuing to increase their allocation to cash, we are looking for signs that stock markets have hit a nadir. That would signal fresh opportunities for investors who are now shopping for deep value stocks across the US and in Europe.