Different corners of the financial markets are expecting different economic outcomes this year, according to UBS Global Wealth Management. They can’t all be right.
Mark Haefele, the CIO at UBS Wealth Management, along with a number of UBS analysts, wrote in a recent note to clients that the bond market seems to think that a recession will start soon, as bond prices are climbing and Treasury yields suggest that the Federal Reserve will start cutting rates before long. But investors in the stock market still expect sustained economic growth.
“The bond market is pricing for a recession to start as soon as the summer,” Haefele wrote, while oil prices and credit spreads also reflect substantial recession risk. “In contrast, the S&P 500 has dropped less than 1% from its level right before the banking stress began, which is more consistent with a soft landing.”
UBS isn’t arguing that the stock market is wrong and on the verge of a painful reckoning. But the $2.8 trillion firm says that the difference in positioning means that stocks simply don’t have much upside at this point.
The firm’s view is that the S&P 500 will trade at about 3,900 at the end of June, which is just below Monday’s close of 3,977, and will fall to 3,800 by the end of 2023.
So Haefele says it’s time to shift money out of stocks and into fixed income.
How to invest during market volatility
“We see high-quality fixed income as attractive given decent yields and the potential for capital gains in the event of a deeper economic slowdown,” Haefele wrote. “Investors holding excess cash should consider opportunities to lock in today’s yields within the asset class.”
That last point is especially important because a lot of investors are holding more cash than usual right now. Haefele advised them to make sure they aren’t underinvested.
Haefele also wrote that investment-grade corporate bonds should be able to deliver returns of around 5% with little risk, while stocks present significant volatility risk and minimal returns.
Speaking of stocks, Haefele doesn’t like what he sees.
“We downgrade equities this month to least preferred,” he wrote. That said, Haefele cautioned that it’s not a good idea to abandon stocks entirely.
He encouraged investors to diversify away from US stocks and growth equities. The best opportunities, in his view, include emerging markets stocks, such as chipmakers in Asia and in China, as well as German equities. He also wrote that among international equities in general, industrials, consumer staples, and utilities look more promising than other areas of the market right now.
The picture in US stocks is essentially the same, as UBS strategists David Lefkowitz, Nadia Lovell, and Matthew Tormey recently rated consumer staples, industrials and utilities as their most-preferred picks. They upgraded industrials and utilities to most-preferred from neutral this month, and downgraded the formerly most-preferred sectors of energy and real estate to neutral.
While he’s not particularly bullish on equities at the moment, Haefele doesn’t see a great deal of downside for stocks either. If the Federal Reserve makes it clear that it will backstop all uninsured bank deposits, as it did with deposits at Silicon Valley Bank, that will help growth assets. And if stocks go down much further, a lot of cash is likely to come back into the market, limiting downside.
Finally, Haefele also downgraded the US dollar to the least-preferred level because he expects slower economic growth and fewer rate hikes from the Federal Reserve in the wake of the ongoing banking crisis.
“We prefer the Australian dollar as well as the Swiss franc, euro, British pound, Japanese yen, and gold,” he wrote.
Haefele added: “We see opportunities to add return and diversification to portfolios through select real assets, including broad commodities and infrastructure; alternative assets, including hedge funds and private markets; and sustainable investments.”
