Scene appears set for equities to grind higher amidst heightened volatility.
2021 was a year in which we anticipated a perhaps surprisingly optimistic outlook for markets. As it transpired, even the most bullish of investors would have been impressed by the gains from equity markets last year.
Another year of global lockdowns, the emergence of new COVID-19 variants, stagflation fears, a major oil shock and regulatory reforms in China were just some of the headlines causing consternation for investors in 2021. Despite this, equity markets, as measured by the MSCI World Index climbed a staggering 20%, led by the United States, where the S&P 500 for the first time in more than two decades recorded its third successive year of double digit returns. These gains were supported by incredibly strong earnings growth and the continuation of unconventional monetary policy and fiscal tools usually reserved for wartime.
Source: Bloomberg, ANZ PB&A CIO. as at 1 January 2022
As 2022 gets underway, we maintain our broadly optimistic tone for risk assets but would warn against any expectations of double digit returns from equities like those experienced in 2021. Rather, we commence the year with a mild overweight to risk assets based on cautious optimism and a belief that, despite more moderate returns in 2022, equities should continue to outperform bonds and cash — albeit against a backdrop of heightened volatility, particularly in H1 as central banks continue the withdrawal of liquidity measures implemented during the height of the pandemic. Here, we expect US equities to again be the leader, marking what would be the fifth successive year of outperformance relative to the rest of the world — a feat not achieved in the last 50 years.
This expectation of moderate gains for equities is underpinned by an outlook of strong growth, where robust consumer demand, elevated household savings accumulated throughout the pandemic and the continuation of relatively easy policy should see GDP rise globally by roughly 4% in 2022 — led by Australia (5.1%), the United States (4.5%) and Europe (4.4%). In China, growth is expected to slow to 4.6% this year, which 2020 aside, would represent the weakest figure in modern history.
This scenario represents our base case for 2022, and as always there are potential downside and upside risks to any setting. At this point, key downside risks centre on Omicron, the potential for further COVID-19 mutations and inflationary pressures or more specifically how central banks tackle these.
COVID-19 variants have the potential to unhinge the global recovery, bring further widespread lockdowns, more persistent supply-chain pressures and with them sustained elevated inflation. Positively though, despite the rapid spread of the newest mutation Omicron, so far it appears to be less virulent than Delta and governments are largely resisting the need for broad-based lockdowns. Medical advances, rising inoculation rates and nuanced restriction measures provide hope that Omicron or any further virus mutations will become speedbumps rather than brick-walls for the global growth agenda in 2022.
Inflationary pressures and more precisely the reaction function of central banks will perhaps be most telling for asset prices this year. In 2022, we expect inflation to moderate in H2 from the highs seen in late 2021 as supply-chain dynamics begin to normalise and base effects continue to wash through the data. Nonetheless, inflation is still expected to settle above pre-pandemic levels and this ‘stickier’ inflation will present an interesting dynamic for policy makers, particularly if growth shows any signs of dissipating earlier than expected.
If inflationary pressures do indeed ease, then this may release some of the need for central banks to hike so aggressively in the second-half of the year. 10-year US government bond yields should track around the 2% mark, leaving real yields negative; this environment is likely to be supportive for risk assets.
Conversely, if supply-side pressures persist and inflationary pressures remain elevated into H2 then this could trigger a belief that central banks may need to tighten more aggressively than currently expected, resulting in a strong risk-off scenario for equities. Here, growth is likely to be constricted, which alongside stubbornly high inflation would present a very unpleasant hand for policy makers.
Historically, central banks have been able to loosen monetary policy to stimulate growth, but with rates at historic lows across much of the developed world, this lever remains partially redundant. The Bank of England (BoE) commenced its hiking cycle in late 2021 and should be joined by the US in early 2022. While these increases will provide central banks with some ‘dry powder’ for future crises, any hiking is unlikely to be enough to see monetary policy become the dominant policy tool for central banks in the near-term. Rather, fiscal policy looks set to become the tool of choice for policy makers in 2022 and the years ahead.
While there are downside risks to our cautiously optimistic outlook for 2022, any near-term pullback in markets is likely to signal a healthy correction from what are already ‘frothy’ global share markets. If conditions are attractive it may even provide the opportunity to increase risk assets further.
As always, we advocate for a long-term, diversified investment strategy to help navigate changing market environments. In 2022, we will be making several changes to our strategic asset allocation as well as looking out for longer-term structural shifts in markets, to better prepare portfolios not only for 2022 but also for the decade ahead. You can read further about some of these in our ‘Key Investment Topics’ section later in the document.
Personally, I’m extremely excited to have joined ANZ late last year – and with the hope of borders remaining open and a return to normalcy long-overdue, I’m looking forward to meeting many of you and discussing our investment views further. As always, we trust this publication provides you with an understanding of what we are expecting in the year ahead. On behalf of ANZ, I’d like to take this opportunity to thank you for your ongoing support. We look forward to continuing to assist you with your investment needs in 2022 and beyond.
Read ANZ Chief Investment Office’s full 2022 Global Market Outlook (PDF, 1.7MB).
Head of Investment Strategy, ANZ Private Banking & Advice
Index information: To 31 December 2021. Australian Shares - S&P/ASX 300 Accumulation| International shares unhedged - MSCI World ex Australia (Net)| International shares hedged - MSCI World ex Australia Net Index (hedged to AUD)| Emerging market shares - MSCI Emerging Markets (Net) in AUD| International property - FTSE EPRA/NAREIT Developed Rental Index ex Australia (hedged)| Infrastructure - FTSE Developed Core Infrastructure Net Hedged to AUD| Australian fixed income - Bloomberg AusBond Composite (0+Y)| International fixed income - Bloomberg Barclays Global Aggregate (AUD Hedged)| Cash - Bloomberg AusBond Bank Bill. Source: FactSet, ANZ PB&A CIO. * Annualised returns are forecast through to September 2031 using Willis Towers Watson (WTW) capital market assumptions (CMA) from September 2021. CMAs are gross of fees and taxes unless otherwise stated.