While investors may want to position their portfolios to mitigate for persistent volatility, Neuberger Berman maintains equities still have the potential to generate positive returns this year.
Joseph Amato, chief investment officer of equities at Neuberger Berman, said as the group adopts a more cautious approach toward equity markets over the coming 12-18 months, an increasingly problematic mix of high inflation, rising interest rates and softening economic growth could persuade investors to go from “buying the dips” to “fading the rallies”.
However, Amato added that being cautious does not mean the same as being bearish on equities, noting that the current economic robustness provides a “meaningful buffer” to absorb a slowdown in activity, high inflation and tighter monetary policy.
“Those fundamental underpinnings are worth bearing in mind as we enter the first-quarter earnings season,” he said. “While we think that elevated volatility is likely to persist, a substantial decline in equity markets remains unlikely as long as earnings hold up and recession is avoided.”
Amato noted that the current market consensus is for approximately 5% first-quarter earnings growth, year-over-year, for the S&P 500 Index.
“Based on past patterns, reported earnings growth is likely to be modestly higher than that, which we would view as an important reminder that the economy is still recovering from the impact of the Covid-19 pandemic,” he said. “For all of 2022, analysts’ S&P 500 earnings forecasts are still holding up in the high single digits.”
Modest risk of US recession in next 12 months
So what of the dangers of inflation starting to pressure margins and bite into these earnings?
Amato said while management teams are increasingly talking about the rising costs associated with tight labour markets and ongoing Covid-19 and supply-chain disruption, so far, they have generally been able to increase prices to at least partially offset these higher costs.
“We can see a similar balance of forces at the level of the broad economy,” he said. “At 8.5%, the US year-over-year inflation rate that came out last week was the highest since 1981; but initial jobless benefit claims have declined to levels unseen since the late 1960s.
“Consumers may be feeling the squeeze, but they continue to have job opportunities to choose from and confidence to spend.”
In terms of the risk of a recession, Amato said in Neuberger Berman’s view, at least on a 12-month horizon, the risk remains modest in the US, given the underlying robustness of the economy.
“Overall, we have little doubt that markets face a challenging period of stubborn inflation combined with slowing growth, likely leading to persistent volatility,” he said.
“That makes a case for higher-quality, lower-beta, income-oriented equity exposures; for larger companies over smaller; and US over non-US markets.”