Outlook Overview: Into 2024

•   Economic momentum into 2024 diverges across major DM countries, with the U.S. still proving resilient, in contrast to a H2 2023 recession in the EZ and UK. Lagged monetary tightening is hurting economic activity in all, but the EZ and UK are still suffering from the Ukraine war energy shock (utility bills are still up substantially versus Jan 2021). In contrast the U.S. is being helped by a healthy wealth position of the U.S. household sector. Some slowing will likely be seen by the U.S. in 2024, though we would see this as weak growth rather than a mild recession. EZ and UK 2024 growth will be slow and risks to growth are also more skewed to the downside in EZ and UK.
• Inflation remains the most critical issue in DM countries, where central bank’s policy rates have peaked or are very close to peaking. However, a period on elevated policy rates are likely into the spring, as central banks want to ensure that headline and core inflation are on a trajectory back towards inflation objectives. Some easing will likely be seen from spring 2024 from the Fed/ECB for a cumulative 75bps of cuts over 2024, to avoid real policy rates from rising as inflation comes down. EZ should be on a trajectory to hit 2% inflation, but the Fed will struggle to get core PCE inflation below 2.5%. BOJ will not follow this trend, as a slow adjustment occurs in the effective cap for 10yr JGB yields towards 1.0% in 2024.
• EM countries economic outlooks also differ. China growth trend is slowing as the drag from the residential property sector will last years and policymakers are focused on targeted rather than aggressive measures. We forecast 4.0% growth in 2024, which will hurt certain commodity producers but otherwise imports for consumption into China are modest. EM Asia ex China will likely be more resilient helped by less monetary tightening than the Fed and also the population dividend. Brazil and Mexico will slow with the lagged effects of monetary tightening still feeding through, as the effects of cumulative rate cuts will only grow by H2 2024. Large EM countries in EMEA will diverge depending on domestic circumstances, though the electricity crisis should ease in S Africa and allow a rebound in growth. 
• Structurally large EM countries’ control of inflation also diverges with most getting inflation broadly back on a path towards their inflation targets, except Argentina/Turkey. China will swing back to low positive inflation in 2024, which will allow moderate additional interest rate and RRR cuts but policymakers will avoid aggressive easing given long-term concerns over the debt/GDP trajectory for China’s economy.
• In terms of financial markets, the upwards adjustment in 10yr bond yields over the summer has now shifted the risk/reward in the next 15 months to moderate positive total returns excluding JGB’s. With peaking policy rates giving way to modest 2024 easing, 2yr yields can decline persistently and this can filter through to a modest degree at the long-end. The reduction in macroeconomic risks and DM rate cuts should also herald a further rebound in global equity markets (Figure 3). Finally, we see the USD declining from overvalued levels, though only slowly against most DM currencies and more mixed against EM currencies.

Risks: DM countries could see stronger lagged effects on the economy from the 2022-23 monetary tightening that could prolong the EZ/UK recession or move the U.S. slowdown towards a mild recession. Separately, in China the impact of the residential construction decline could be stronger than expected in economic and financial instability terms and cause noticeable downside risks to our baseline China forecast (Figure 1).

Figure 1: Economic Scenarios

Source: Continuum Economics

Figure 2: Policy rate and 10yr Yield Changes Since Start of 2022 

Source: Continuum Economics, latest September 27

Market Implications

Figure 3: Asset Allocation for 15 Months to end-2024

Source: Continuum Economics. Note: Asset views in absolute total returns from levels on September 28 (e.g., 0 = -5 to +5%, +1 = 5-10%, +2 = 10% plus).

• Government bonds: 10yr yields face a tricky period into 2024. Fed and other DM central banks will likely sustain current elevated policy rates and then only start easing modestly. With the existing inversion in 10-2yr yield curves, this can sustain high 10yr yield levels. A modest decline in 10yr yields can be seen by end 2024, as DM rate cuts are delivered but the normal yield curve disinversion out of a weak growth period suggests that this will be smaller than the decline in 2yr yields. We forecast 10yr U.S. Treasury yields at 4.25% and 3.90% for end 2023 and end 2024 respectively. 
• Equities: U.S. Equities valuations discount a lot of good news and a correction can be seen, with the Fed keeping rates at elevated levels through spring 2024. However, we pencil in 75bps of Fed cuts in 2024, which should lift the mood and we forecast 4800 on the S&P500 for end 2024. Other DM equity markets have a similar profile as cheap valuations versus bonds are counterbalanced by slow economic and corporate earnings recoveries. Brazil remains our favorite market, with 2024 rate cuts likely to drive a substantive earnings multiple rerating. 
• FX: The soft landing for the U.S. economy means a slower pace of 2024 rate cuts from the Fed than previously expected. While the USD is very elevated, it will likely come down only modestly from current overvalued levels as some DM countries match the Fed rate cuts and we forecast 1.15 on EUR/USD by end 2024. We do feel that USD/JPY is extreme and liable to a JPY surge as the Fed eases and expectations grow of more cuts in 2025.
• Commodities: Our forecast of a rebound in oil prices on below normal inventories and OPEC+ discipline has played out. Some softness in the global economy should be a restraint and we still see $85 end 2023 and $90 end 2024.

Figure 4: Key Events and Critical Uncertainties

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