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‘Aggressive’ shift to long-term bonds ‘premature’: T. Rowe Price

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By Reporter
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3 minute read

The investment management firm is “reluctantly bearish” about the short-term outlook for the global economy, with continued uncertainties strengthening the case against an aggressive portfolio shift.

T. Rowe Price has revealed its outlook for global financial markets in the second half of the 2023 calendar year, which it said remains highly uncertain and sensitive to near-term developments in the battle against inflation.

The firm said it is “reluctantly bearish”, given the resilience of developed markets to aggressive monetary policy tightening from the central banks.

Markets are increasingly expecting contractionary monetary policy to persist for longer than anticipated, with recent evidence confirming fears of inflation “stickiness”.

But the firm acknowledged higher interest rates and ongoing pricing pressures would eventually trigger a notable downturn in aggregate economic activity.

Any softening, T. Rowe Price added, increases the risk of a recession, particularly in the United States.

As such, despite delivering gains in the first half of 2023, equity markets earnings estimates “may still be too high for a weakening economy”, putting further pressure on equity valuations.

Meanwhile, bonds could present investors with attractive opportunities in high yield, including across selective sovereign bonds and local currency debt in emerging markets.

“I am bearish because the risks are substantial, but I am also reluctant because excessive pessimism can lead investors to overlook opportunities and miss potential market recoveries,” Arif Husain, head of international fixed income and chief investment officer, said.

Underpinning the uncertain outlook, Mr Husain added, is contrasting projections for monetary policy.

“The market is trying to reconcile two very different scenarios — one where the US economy remains fairly strong and the Fed doesn’t cut rates and one where the Fed has to cut by several percentage points,” he said.

“The Fed and other central banks in developed markets will lower rates eventually, but the timing is tricky. Rates are likely to remain higher for longer.”

Accordingly, an “aggressive portfolio shift” into longer‑term bonds may be “premature”.

“Some emerging markets may be on the verge of rate cuts, but they are only attractive on a very selective basis,” he added.

Mr Husain goes on to flag another significant downside risk to the global economy, warning that a reversal of monetary policy settings in Japan, from quantitative easing to tightening, may encourage Japanese investors to repatriate their wealth.

He fears this could deliver a “significant shock” to markets outside Japan.

“This could end up being a lot more important for markets than whether the Fed hikes or cuts rates at its next meeting,” he adds.

Reflecting on the overall outlook, Sébastien Page, head of global multi-asset and chief investment officer, said while many economic indicators are “flashing red”, post-COVID-19 “distortions” have made it difficult to gauge the outlook.

Despite the uncertainty, investors can still capitalise on market opportunities across particular asset classes, including small cap stocks trading at “significant discounts”.

However, he noted small caps would be more vulnerable to market downturns, adding “it takes skilled security selection” to identify good investments.

Investors considering larger cap stocks could find opportunities among the “mega‑cap technology companies” amid the rapid acceleration in artificial intelligence applications, according to Justin Thomson, head of international equity and chief investment officer.

“An AI arms race means the strong tech companies are likely to get stronger,” he said.