What to expect from equity markets in 2023

Monetary policies will remain the key determinant of the direction of equity markets and the choice between growth and value.

Zehrid Osmani, portfolio manager at Martin Currie, said adjusting monetary policy expectations had been the dominant driver of share price returns in 2022.

Osmani expects this trend to continue in 2023 whilst the uncertain environment around inflation remains.

The big question is how much central banks will need to continue to hike interest rates to combat the elevated inflationary pressures.

Central banks are focused on inflation. They have effectively moved from doing whatever it took to prop up growth to whatever it takes to reduce inflationary pressures.

During 2023, if inflationary prints overshoot expectations, monetary policies will likely need to further adjust upwards.

It will weigh negatively on equity returns and quality growth style, to the detriment of value.

Inversely, if inflation undershoots, monetary policy expectations will adjust downwards, supporting equity markets and the quality growth style.

“There is a likelihood that central banks start shifting their focus toward growth in 2023 if recessionary concerns grow significantly, as we detail further down,” Osmani said.

A sharp slowdown in 2023 remains Martin Currie’s core scenario.

“With leading indicators both on the manufacturing and services sides continuing to deteriorate, we believe that 2023 will be a year of low growth at the global and U.S. levels,” he said.

“We also believe that Europe is heading into stagflation.”

“An ongoing sharp slowdown in 2023 remains our core scenario at the global level with a probability of 65% to 70%.”

“We have also increased the probability of global stagflation in 2023 to 30% to 35%, up from 25% to 30% previously.”

The Chinese economy will be a key determinant of the global economic cycle since it is the second largest globally.

It will be difficult to predict the momentum in the Chinese economy, given the ongoing internal policy of zero-COVID, which could lead to periodic renewed regional lockdowns.

“China will be unlikely to change its stance on its zero-COVID policy, given its less active and less efficacious vaccination program and healthcare infrastructure,” he said.

“Any shift in policy stance on this front by Chinese authorities could lead to a rapid improvement in the country’s leading indicators.”

The improvement would, in turn, lead to an improvement in the global economic cycle.

For Europe, Martin Currie maintains its probability of stagflation at 70%, with a probability of a sharp slowdown at only about 30%.

Europe’s economic momentum will be influenced by Chinese indicators, given the exposure to China by the European Union region and the more cyclical exposure of the European market.

Energy supply risks in Europe will likely come back in focus again as we approach the winter 2023 months.

Any renewed risk of energy rationing could put further downward pressure on economic activity in that region in the second half of the year.

Geopolitical risks remain omnipresent, both in Europe and Asia.

The Russia-Ukraine conflict remains an important focal point, with a risk of escalation in the conflict and broadening of the conflict to the NATO block.

The ongoing energy supply risk for Europe will also be important, with the EU block needing to continue to make progress toward eliminating its dependence on Russian gas.

“Ultimately, we believe that Russia’s importance on the international scene will have been permanently diminished,” Osmani said.

“A resolution to this conflict could be an important driver of a risk-on rally in European equities in our view.”