The ETF Think Tank wrapped up its 2022 schedule with a revisiting guest, Russ Koesterich. He’s a portfolio manager at BlackRock and specializes in global allocation strategies. After a tumultuous year unlike any we have seen in decades, he returns to offer his thoughts on the current economic landscape and where the opportunities exist in the coming year.
Koesterich says the clear differentiator between this year and years past is that we’ve had to deal with inflation again for the first time in 40 years. There were supply chain disruptions and too much stimulus in the system, but the larger issue is that central banks were all way behind the curve. Investors shouldn’t assume that conditions are going to change, however, just because the calendar changes. This theme will carry forward into 2023 and he does not think that moving into a new year means investors should suddenly change their strategies.
Despite all the pessimistic predictions, Koesterich isn’t really in the bearish camp on the earnings front. He doesn’t believe that a hard landing is necessarily in store for the economy because balance sheets are still in pretty decent shape. Nominal GDP is still expected to rise in 2023 and he believes that corporate earnings can rise along with it. He also doesn’t see a massive spike in corporate defaults either, so there are some opportunities within the credit space.
Koesterich notes that investors should still be quite selective though. His team is still underweight duration, but is slowly adding some back in. Yields on the long end of the curve still look lower than they should be, but higher yields are still creating some good opportunities to improve portfolio income. He favors investment-grade and high yield right now but feels high quality could be a better play in 2023.
Koesterich also believes that the U.S. economy is going to prove more resilient than most people think. There is still about $1.3 trillion of excess savings on the sidelines with consumers still interested in “revenge spending”. The services side of the economy is still holding up incredibly well. Gas prices are down and that has the potential to be a huge positive for households. The job losses we’ve heard about in tech get the headlines, but there are still a lot of jobs waiting to be filled and a lot of places that drive the middle-income segment of the labor market will hold up really well.
Other key takeaways:
- With more than $30 trillion in debt and the government about to spend $1 trillion annually on interest expenses, another credit downgrade isn’t imminent, but it will probably be coming eventually.
- The real damage could come from QT and not interest rate hikes. We’re likely to end up seeing more train wrecks, such as the one we’re seeing now in crypto. Even with QT, expect the Fed to keep a bloated balance sheet for a very long period of time.
- Koesterich believes the biggest surprise of the year was the Russian invasion of Ukraine. Investors may have seen inflation and interest rates moving higher, but Russia/Ukraine wasn’t on the radar.
- In 2022, interest rate volatility was driving equity volatility. Treasury volatility has probably peaked, but equity volatility has not. If rate volatility declines, you could actually have a good year in equities.
- Koesterich says he prefers to be closer to the U.S. on fixed income but sees some opportunity in European and Brazilian high yield. He also prefers the U.S. for equities right now. For international exposure, he’s really focused on individual names and doesn’t even want to recommend a country or sector. The COVID story in China will be interesting.
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