LONDON — Investors should brace for a “pay-back period” in 2022 following a year of strong gains, as macroeconomic risks mount, according to HSBC Asset Management.
In its 2022 investment outlook, the bank said the bumper returns investors have enjoyed over the last 18 months were in large part “borrowed from the future.”
HSBC Asset Management Global Chief Strategist Joseph Little noted that bond yields, spreads and risk premia are all compressing. Risk premium is the amount of return an asset offers above the risk-free rate of return.
As such, many asset class returns are lower than they were earlier in the year, he added.
“A complex macro outlook is exacerbated by higher valuations and lower margins of safety in markets. We should expect cross-asset volatility to rise,” Little said.
HSBC expects high single-digit profit growth as economic expansion slows on the back of supply and demand imbalances and a gradual normalization of monetary policy. It sees GDP growth slowing to a 4-5% range worldwide, with the U.K. and China towards the top of that range and the U.S. and Europe nearer the bottom.
The big risks
The two key risks on the demand side are a resurgence of Covid-19 or a “hard landing” in China, where credit and regulatory tightening continue to constrain economic activity, Little said.
“We expect a range of targeted easing measures to be introduced, but the strategy of common prosperity means that investors need to accept underlying growth in China is in the region of 5% for now,” he added.
On the supply side, the main risks are that supply chains take longer to rebuild than currency expected, and that the effects of distortions in global labor markets persist, Little said. “There is evidence of post-Covid scarring, meaning ‘equilibrium unemployment’ is higher than most economists assume.”
“This could have serious social implications and mean central banks are wrong on inflation. Policy would have to adjust much more hawkishly, leaving limited places in markets for investors to hide,” he added.
But despite this economic and market uncertainty, HSBC suggested that the broad growth/inflation mix remains favorable in the aftermath of 2021’s “warp speed economy.”
“We think the underlying regime looks rather like the 1990s, with an ongoing recovery, technological innovation, rising capital spending and policy experimentation,” Little said.
“If that is realised, then in Q4 2022 inflation will be running at 2-2.5%. For 2023-25 we expect a 2-3% inflation range.”
Barbell strategy
HSBC still sees a strong case for global equities, since stocks generally perform better than bonds when labor markets are improving, as is the case at present as economies recover from their pandemic-era employment troughs.
“For now, financial conditions still look easy, the equity premium is reasonable, profits growth continues, and that should be enough for stocks to outperform bonds,” Little said.
He added that a rise in bond yields should favor late-cycle and value stocks — those thought to be trading at a discount relative to their fundamentals — many of which are found in Europe and Asia.
However, given a complex macroeconomic cocktail of challenges, HSBC is opting for a cautious “barbell” approach. A barbell strategy tends to involve being overweight on two distinct groups of stocks to hedge against uncertainty.
For HSBC, this includes defensive stocks — which provide consistent dividends and earnings regardless of the wider trajectory of the market — such as quality companies and those tied to the ESG transition and digital economy, along with cyclical names.
Fixed income and alternatives
HSBC also said it likes the look of emerging markets fixed income and Chinese renminbi-denominated bonds over global bonds, both for “superior carry and portfolio diversification.”
“Present risks notwithstanding, the future return profile of Asian credits looks very attractive versus the U.S. and Europe,” Little added.
In alternatives, HSBC Asset Management will focus on strategies to support cost-effective hedging against inflation, involving sectors underpinned by “real” assets such global and Asian real estate and infrastructure.
“Secular re-greening, the transition to net zero as well as macro cross-currents should support selected commodities, including carbon, copper, and uranium,” Little said.
“Meanwhile, an allocation to venture capital and climate technology is a reasonable way to capture innovation and a way to manage the fear of missing out.”