In focus

Can equities continue to rise in 2022?


The discovery of the Omicron variant was an abrupt reminder that the pandemic is not over. It has not prompted us to lower our forecasts for economic and corporate earnings growth, both of which suggest maintaining exposure to equities. However, given the increased uncertainty, we do not view the brief sell–off it caused as enough of a buying opportunity.  

As I highlighted at the end of last quarter, we could be entering a more volatile period for markets – and not just because of continued risks from Covid. Inflation and a lower level of support from monetary policy act as headwinds, even if this has not yet been the case so far.

This uncertainty underscores the importance of diversification. Where appropriate, we maintain the “defensive ballast” within portfolios. It also highlights the appeal of longer–term themes – such as energy transition, technology and healthcare. As we saw last year, these sectors can continue to thrive even in the midst of a pandemic.

How we’re thinking about inflation

We expect inflation to moderate over the coming months, though it is unlikely to return to the sub–2% level that prevailed before the pandemic.

Equities should, in general, be able to perform well at this level of inflation. However, we will be focusing on pricing power to ensure that companies within our portfolios can protect margins from higher costs. Some sectors – such as technology – look better positioned than others.

Inflation could prove more of a headwind for government bonds, which could fall given their low starting yields and as investors appreciate that somewhat higher inflation is here to stay. There are selected areas of fixed income that continue to look attractive – such as Chinese bonds and asset–backed securities. However, we remain comfortable with our overweight position in alternatives at the expense of bonds. This includes exposure to market neutral strategies, which we look to generate attractive returns without taking significant bets on markets rising or falling.

A new risk for 2022: stagflation 

Though we do not expect it to materialise, the risk of “stagflation” – the combination of low or negative growth and high inflation – is rising, as the chart below shows. History suggests that both equities and government bonds struggle in this environment.

Our research points to three asset classes that are better positioned: inflation–linked government bonds, gold and other commodities. We have direct exposure to the first two of these, which should provide protection if we do head towards a stagflationary scenario. We should also benefit from our exposure to “real assets” – such as infrastructure and specialist property – that offer longer–dated, inflation–linked income. 

Within equities, stagflation can result in very different outcomes for different sectors. Materials and energy have tended to benefit from rising commodity prices. More defensive areas of the market, such as utilities and consumer staples, have also performed well as growth has slowed.

We will continue to monitor our equity exposure as the economic outlook evolves, ensuring we are well positioned to both deliver returns and mitigate risks for our clients.

Moving in the wrong direction: inflation forecasts rising, growth forecasts falling

3–month change in consensus inflation (CPI) and growth forecasts

Can-equities-continue-to-rise.png

Source: Bloomberg, Cazenove Capital. Data to 19th November

  2022 GDP forecast 2022 CPI forecast
US –0.4 0.7
UK –0.4 1.1
Europe –0.2 0.7
Japan 0.1 0.1
China –0.2 –0.1

The opinions contained herein are those of the author and do not necessarily represent the house view. This document is intended to be for information purposes only. The material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. The material is not intended to provide, and should not be relied on for, accounting, legal or tax advice, or investment recommendations. Information herein is believed to be reliable but Cazenove Capital does not warrant its completeness or accuracy. No responsibility can be accepted for errors of fact or opinion. This does not exclude or restrict any duty or liability that Cazenove Capital has to its customers under the Financial Services and Markets Act 2000 (as amended from time to time) or any other regulatory system. Cazenove Capital is part of the Schroder Group and a trading name of Schroder & Co. Registered Office at 1 London Wall Place, London EC2Y 5AU. Authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. For your security, communications may be taped and monitored. 

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James Brennan

James Brennan

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