2023 outlook: inflation, recessions, and fixed income opportunities
Heading into 2023, industry leaders predict continued macroeconomic volatility, peaking inflation, and a reliance on fixed income in developed markets.
Maya Sibulposted on Friday, December 30, 2022
As the insurance industry moves from 2022 to 2023, insurance investors should have their eyes firmly set on several key concerns and opportunities. These topics include macroeconomic factors such as inflation, geopolitical unrest, the search for liquidity, declining equity value, and resulting opportunities in fixed income and alternatives.
It remains to be seen how these factors will shape markets in the first half of the year, but insurance investors should hold tight to their hats and monitor their portfolios carefully. Many in the industry are predicting further uncertainty, though hoping for calm amidst the storm.
Geopolitical upheaval in the UK and EU
From a geopolitical perspective, markets in the UK are still recovering from extreme turbulence due to former Chancellor Kwasi Kwarteng’s mini budget and U-turns this fall. Under current Chancellor Jeremy Hunt’s Autumn fiscal plan, economic growth and reputational credibility are clear priorities for the country.
Investment teams at insurance companies should also consider the resounding effects of recent changes to the UK Solvency II regime, as outlined in Hunt’s Statement. In broadening the asset and liability eligibility criteria for matching adjustment and allowing the industry to invest in more assets, these developments could mean more favourable investment conditions for insurers going into 2023.
There is work to be done in the new year, but positioning for investments is slightly better now than in September, said Sharon Bentley-Hamlyn, Director at UK-based Aubrey Capital Management.
“By comparison, the fallout from our political ineptitude here in the UK and the fractious state of politics in the US looks mild.”
However, she highlighted that conditions are still severe globally. “By comparison, the fallout from our political ineptitude here in the UK and the fractious state of politics in the US looks mild,” she added, also mentioning civil unrest in China and Iran.
When it comes to equities, Bentley-Hamlyn said that investors are heading toward calmer waters. She added that the price of oil and natural gas in Europe had fallen significantly. “Europe probably has enough gas in storage to get through the winter, despite the current cold spell,” she said.
Falling oil and gas prices – alongside reputational recovery in the UK – could feed into reducing inflation numbers, a view that aligns with predictions for the US and Europe.
Slowing inflation rate in the US
A recent BlackRock study on the “2023 Q1 Equity Market Outlook”, said that it believed inflation had peaked for this cycle, even though it is retreating slowly. If this prediction plays out, it could mean good news for insurance investors who have been monitoring their equity allocations and eyeing recent US Federal Reserve rate hikes warily.
“This suggests the [US] Consumer Price Index will eventually catch up, giving the Fed room to pause its rate-hiking campaign.”
“Housing demand and prices are easing, consumer confidence is waning, and retail sales growth is showing some signs of stalling. This suggests the [US] Consumer Price Index (CPI) will eventually catch up, then giving the Fed room to pause its rate-hiking campaign,” said BlackRock's analysis.
Nonetheless, 2023 will be another volatile year, said Kelly Chung, Investment Director and Head of Multi-Asset at global asset manager Value Partners Group. She added that the imminent threat of recession in the US means that the Fed will need to continue to adjust accordingly.
However, she said she eventually saw inflation slowing down, despite “remaining higher than the Fed’s 2% target in 2023.”
Mixed opinions on European rate hikes
When it comes to European markets, industry leaders are taking slightly different stances on rising inflation and resulting rate hikes.
After the European Central Bank’s (ECB’s) 15 December announcement about raising interest rates, Alberto Matellan, Chief Economist at MAPFRE Inversión – the Spanish insurer’s investment arm – said that he doesn’t foresee rate hikes ceasing anytime soon. "With inflation expected at 6% by 2023, you can't think that the ECB will stop hikes at 3%.”
He added that the current inflation situation favours companies that are larger, more operationally robust, and thus more resilient in a rising rate environment. “Companies that have benefited from the expectation of a ‘pivot’ in the last two months could suffer [now],” he continued. This means that it is possible insurance investors will see turnarounds in the European equity market come 2023.
This sobering outlook for the EU was echoed by Nicolas Malagardis, Market Strategist at Natixis Investment Management Solutions, who said that while he believes European inflation will continue to decelerate, overall financial conditions will deteriorate further. “Although at a reduced pace, central banks will continue to hike policy rates in 2023.”
Malagardis added that European governments will likely use fiscal policy to offset this tightening, as purchasing power in European households is looking particularly bleak.
“[European governments] will find it more difficult to use fiscal policies to support the economies when their monetary policies are still in a tightening mode.”
However, in Chung’s view, this situation presents a tricky Catch-22: “[European governments] will find it more difficult to use fiscal policies to support the economies when their monetary policies are still in a tightening mode,” she said. She added that she believes a European recession is likely in 2023, due to what she sees as a high chance of stagflation.
For insurance investors, heightened rates and increased recessionary conditions could mean new opportunities: for example, it could be beneficial to allocate capital to healthier asset classes – with guaranteed liquidity – in the new year.
Reassessing fixed income opportunities
Because 2022 was a volatile year for developed economies, most asset classes suffered hard hits. This opened new avenues for under-discussed asset classes that offer investors more stability amidst the chaos.
“2023 will be a friendlier fixed income year than 2022,” said Ben Barber, Director of Municipal Bonds at Franklin Templeton Fixed Income. He added that relative valuations are currently at generally attractive levels, which means that the municipal bond market, in particular, offers compelling value for both tax-exempt and taxable fixed income investors in the US.
This outlook was echoed in BlackRock’s study, which predicted that given recent “speedbumps” in the equity market, 2023 will see an increased need for balance and resilience in portfolios. Fixed income could provide these elements and offer asset managers a new market foothold.
“Energy will remain supported while gold is a good hedge against any escalation of geopolitical risks.”
Chung offered her support for alternatives, which she felt would handle volatile conditions well. “We believe energy will remain supported while gold is a good hedge against any escalation of geopolitical risks,” she said.
Ultimately, managers and investors who maintain active allocations to carefully manage risk will come out on top, Chung added.
Insurance investors will need to foster resilience in their portfolios, be smart about new allocations, and keep their noses to the ground. There are likely to be surprises along the way, and if 2022 is a good indicator, inflation, volatility, and recessionary conditions will continue into the first half of 2023.