What’s in store for the global economy over the rest of 2024? The first half of the year has already come and gone and investors and researchers are searching for clues into how the next six months will look like—and the investments that will give the highest returns.
“The world is at a delicate juncture,” said Grace Peters, Global Head of Investment Strategy at J.P. Morgan Private Bank. “On the one hand, higher growth, higher bond yields and higher equity valuations. On the other hand, higher inflation, higher geopolitical risks and potentially higher taxes. Despite these challenges, we think positive forces can power markets forward in 2024.”
In an increasingly changing world, the economy is also subject to fluctuations. Nonetheless, the first half of the year has demonstrated its resilience, with the US avoiding falling into a recession and global equities returning over 10% despite inflation rates remaining at an eight-year high. To navigate the global economic and investment landscape, wealth management experts are looking at the best ways to invest under the current market conditions.
J.P. Morgan Private Bank’s 2024 Mid-Year Investments Outlook highlights five important themes that will define the six months ahead: the strength of the global economy, the AI boom, interest rate cuts, the US election and a continuation of conflicts across the globe.
The economy remains strong
The global economy has defied many negative predictions, showcasing strength and durability. “Despite global inflation not falling as quickly as forecasters may have hoped, the global economy looks remarkably strong, defying the pressure of higher interest rates,” Peters noted.
Over the past five months, economists have marked up their 2024 projections for global real GDP growth from about 2.5% to 3% and lowered forecasts for Federal Reserve (Fed) rate cuts from seven to just two. Moreover, a set of key market and macroeconomic variables ranging from unemployment rates to corporate profit margins, (but excluding inflation) look as “healthy as they have in decades”, the report found.
“The global economy looks remarkably strong, defying the pressure of higher interest rates”
Grace Peters of J.P. Morgan Private Bank
“Once-skeptical investors and policymakers have come to acknowledge that the economy is not just resilient, it is actually quite robust,” analysts added. “We expect global equities will power portfolio returns through the rest of the year. At the same time, more onerous financing costs create the potential for attractive returns in credit and discounts in mid-cap equities, real estate and private equity assets.”
In the US, the recent trend in real growth has been around 3%, the unemployment rate has stayed below 4% and inflation has fallen from its 2022 peak to a rate of around 3%. The US non-financial profit margins have reached nearly 18%. Meanwhile, in Europe and Japan, margins have doubled to 10% over the last decade. Global equities rose 20% over the past year and safe, short-term government bonds continue to offer positive real yields. As a result, the authors of the report believe that the risk of a recession is “relatively subdued”.
The start of rate cuts?
This year began with high expectations that the US Fed would enter a rate-cutting cycle. Six months later, those cuts have not yet materialised. Nonetheless, globally, the tide has now begun turning away from tightening. The Swiss National Bank has already started to lower interest rates, and the European Central Bank and the Bank of Canada have also announced cuts.
“We think policy easing will support global risk assets. Unlike the 2010s—but similar to the 1990s—policy rates should stay above the rate of inflation,” said Jacob Manoukian, US Head of Investment Strategy at J.P. Morgan Private Bank.
The US labour market is healthier than it was in 2022 and far better than in the years following the 2009 crisis. Moreover, inflation expectations remain tame. Surveys from both the New York Fed and the University of Michigan expect inflation rates to remain near 3% a year. As such, the Fed is considered to be “in a position of strength” in which, as long as pressure doesn’t build in the labour market, it can “sit tight and wait for shelter inflation data to improve”.
If growth does slow unexpectedly in a way that threatens a recession, the Fed can lower interest rates and stimulate economic activity. However, without renewed pressure in the labour market, “the case for further rate hikes seems relatively weak”, J.P. Morgan Private Bank said. For the rest of the year and into 2025, the bank predicts the environment for cash yields will be comparable to the 1990s when policy rates were around 200 basis points higher than the rate of inflation.
The AI impact
A key protagonist of almost any financial prediction for the year ahead is the potential economic impact of artificial intelligence (AI). The sector has already been the focus of a wave of excitement, investment and earnings growth that is driving record growth in the technological sector. The productivity gains resulting from the implementation of AI tools could be even greater than the impact of the steam engine, personal computer or the internet.
“The impact on growth could be substantial—perhaps even transformative—with evidence indicating that the AI productivity boost may appear in US economic data by the end of the 2020s,” Manoukian said.
“The impact [of AI] on growth could be substantial–perhaps even transformative”
Jacob Manoukian of J.P. Morgan Private Bank
But how long will it take for this to happen? When looking at the historical precedents, the bank found that it took more than 60 years for the steam engine to deliver any observable economy-wide productivity benefit. But with each subsequent technological innovation, the time to observe productivity growth declines. Based on International Monetary Fund (IMF) estimates, the cumulative productivity gain of AI could reach nearly 18%, or $7 trillion beyond the current Congressional Budget Office (CBO) projection for GDP, compared to the just under 13% cumulative productivity gain delivered by the personal computer and the internet over a similar time horizon.
Although we have not yet seen the full impact of the AI revolution on the global economy, it is already transforming corporate behaviour, investment and earnings. Currently, less than 5% of US firms are actively using AI but companies accounting for half of the S&P 500’s market cap have mentioned AI on earnings calls. The top publicly traded companies on the market are closely linked to semiconductor manufacturing and cloud computing, namely Nvidia, Alphabet and Microsoft.
The US election
In November, the world’s eyes will be focused on the outcome of a particular vote. Thomas Kennedy,Chief Investment Strategistat J.P. Morgan Private Bank has stated that, “while our market and economic outlook is constructive, we acknowledge two main sources of uncertainty—geopolitical risk and the US election.”
The upcoming US election is particular in that both presidential candidates have been presidents before. As such, the bank has stressed that global markets performed well during both candidates’ terms in office, despite significant differences in five critical areas: taxes, tariffs, energy, healthcare and regulation. While US large-cap equities delivered an annual return of 15.6% during the Trump administration, in the time between Joe Biden’s election in 2020 to today, US large-cap equities posted a 12.4% annual return.
“We acknowledge two main sources of uncertainty – geopolitical risk and the US election”
Thomas Kennedy of J.P. Morgan Private Bank
“Those two periods had no shortage of policy, economic and social uncertainty,” the report stated. “But in the end, economic and earnings fundamentals drove equity markets higher, and the president had a relatively minor influence over market returns. We expect more of the same for the next four years.”
An eye on the world
Beyond the US, the world is witnessing a period of high geopolitical risks, with an increasing focus on national security and defence. The war in Ukraine, tensions in the Middle East, as well as strains in the relationship between China and the West are “top of mind for investors large and small”.
Nonetheless, geopolitical events very rarely leave a lasting negative impact on US large-cap equity markets. An analysis of 36 destabilising events such as wars and coups since the beginning of World War II found that six-month and 12-month forward returns after these events remained identical to the average returns during periods when there was no notable geopolitical event. In contrast, they did have profound market impacts at the local level. Thus, investors with concentrated exposure likely have more to fear from geopolitical risks than those with globally diversified portfolios.
“Markets will likely continue to be wary of further conflict, but we do not believe these risks will derail our overall view,” the report stressed. As an example, the bank predicted that it would take a sustained 50% rise in energy prices to boost non-energy inflation by 1%; an unlikely surge.
However, upside pressures could keep inflation above central bank targets, especially in the US. That would mean higher policy rates and bond yields, but also stronger corporate earnings and demand for real assets. For more tactical investors, gold and crude oil would stand out as safe havens. “It is a constructive backdrop for multi-asset portfolios,” experts noted.
Riding the wave
How can investors take advantage of the current financial landscape? The bank advised clients to rely on equities to harness global growth, real assets to insulate against inflation, and bonds to provide income and mitigate risk if economic growth falters.
“We think stocks can maintain elevated valuations despite higher bond yields”
Looking at bonds, the expectations of continued higher policy rates and global growth amid uncertain inflation create an environment in which the bank believes bond yields of all maturities “will likely trade in a higher range than they did in the post-global financial crisis (GFC) era”.
Moreover, strong economic growth and elevated interest rates mean that it is a good time to be a lender by deploying capital in credit markets. High-yield bonds have returned nearly 3% year-to-date relative to negative year-to-date performance for core and municipal bonds and all-in yields are upwards of 8%. In fact, high-yield bonds could withstand a spread widening of around 75 bps or an increase in the default rate to 4.4% from less than 3% today and still deliver returns in line with Treasury bills, the bank stressed.
The report’s most controversial view is the prediction that equity valuations should remain well supported in a high growth and high inflation environment. Despite the traditional perception that higher bond yields should decrease equity valuations “equities can benefit during inflationary environments because companies can raise their prices while keeping their costs under control”. This can be seen in the fact that, amid the highest inflation period since 1980, profit margins in developed economies are “near their widest levels in history”.
“We think stocks can maintain elevated valuations despite higher bond yields,” the report stated. “More specifically: We believe the earnings yield should be close to the 10-year Treasury yield.”
History suggests that equities return nearly 15% per year on average when inflation runs between 2% and 3%, as is the case today. Even when inflation runs between 3% and 4%, average annual returns are over 8%. “Global equities should be able to power portfolios through higher growth, inflation and interest rates through the second half of 2024,” analysts concluded.
The rest of the year ahead is shaking up to be a very attractive environment for equity investors, as well as those who build diverse portfolios to maximise their yields and remain resilient in an ever-changing environment. <ENDS>