Why the world’s volatility makes market guessing game even harder

For economic forecasters 2023 will be remembered for all the wrong reasons and it’s fair to say many will have been humbled by their predictions. So will they get it right in 2024?

Traders work on the floor of the New York Stock Exchange on the first day back from the Christmas shutdown. Picture: Getty Images

As 2023 draws to a close, it’s probably fair to observe that for most economic forecasters or market strategists it has been a reasonably humbling year.

For the US economy, the consensus forecast of economists back in January expected growth of just 0.3 per cent this year, whereas the actual number is expected to be closer to 2.5 per cent.

And economists expected the Fed funds rate – the benchmark policy rate in the US – to be 4.7 per cent by December this year. Instead, it is 5.5 per cent.

Certainly there were very few backing the Fed’s chances of delivering a soft landing in 2023, but so far, so good on that front.

As noted above, the economy has done better and inflation has fallen faster than was expected.

The story in Australia is similar. Back in January, economists thought the RBA cash rate would finish the year at 3.6 per cent. Instead, the actual number is 4.35 per cent.

The consensus also thought the Aussie dollar would finish the year at US72c and instead we’re hovering around US66c.

There would have been few forecasters at the beginning of the year who believed that national house prices could rise 9 per cent this year.

Any investor might rightly ask what did everyone miss? In the case of the US economy, it was probably a couple of things that were underestimated rather than missed. For example, the extent to which fiscal policy supported growth, and the buffer that household savings provided to consumers. Stronger growth and higher rates helped to support the US dollar, to the detriment of the Australian dollar.

Locally, the impact of net migration helped to support house prices and the broader economy. But it also impacted inflation, as strong population growth added to already robust domestic demand. This, together with sticky inflation, forced the RBA to lift rates more than the market anticipated at the beginning of 2023.

From a financial markets perspective, investors were surprised by persistent weakness in Japan’s Yen, a nasty sell-off in government bond yields in 3Q and early 4Q, and strength in US equities despite softer earnings growth in the first half of calendar 2023.

So with all that in mind, what can we expect for 2024?

For a start, we can expect a more synchronised global economy in 2024. This year was characterised by quite divergent growth outcomes; strength in the US, weakness in China, Europe and the UK.

Even at a sectoral level, there was considerable difference in the fortunes of manufacturing relative to services. But next year, in all major economies, growth is expected to slow or at best be broadly similar in 2024 relative to 2023.

In aggregate, the global economy will register sub-trend growth in the year ahead. Inflation is expected to be lower in 2024 versus 2023 in most major economies, with the exception of China.

The Fed’s dovish pivot at its December meeting has supercharged expectations for interest rate cuts. In the US, the market now expects 150 basis points of easing by the end of 2024.

Australia hasn’t been immune to this dynamic, with the market now pricing a circa 80 per cent chance of a 25 basis points rate cut from the RBA in May. One key dynamic for investors in the year ahead will be the extent to which these expectations are validated by central banks.

For equity markets, we see upside capped by above-average valuations and earnings estimates that already imply a soft landing. However, the downside is likely to be limited by central bank easing at some point later in 2024.

Fixed income will continue to remain a key component of portfolios in the year ahead, given still attractive valuations.

While markets will focus on the US election, it is worth noting that 2024 brings 40 national elections in total; just over 40 per cent of the world’s population will cast a vote for (or against) a new national leader. Some of these take place in significant economies and/or geopolitical hot spots, including India, Indonesia, Brazil, Russia and Taiwan.

Of course, there are always risks to the outlook. Four so-called wildcards that investors may want to contemplate for 2024 include:

1) Stronger than expected Chinese GDP growth – among other things a positive for commodity prices and the Australian dollar;

2) Ongoing strength in growth and inflation in the US, forcing the market to abandon expectations of rate cuts;

3) Growing concerns about US fiscal unsustainability, with the attendant consequences for the US dollar and US government bond yields; and

4) The possibility that geopolitical developments escalate closer to home.

One thing we can say for sure is that 2024 will be another interesting year for investors. The new world in which we make investment decisions is more volatile and more uncertain.

This requires discipline, a focus on asset allocation and a constant focus on ensuring that portfolios are adequately compensated for the risk that is taken in any asset class.

Sally Auld is chief investment officer with JBWere