Opportunities for risk investments in 2024 amid uncertainties

Björn Jesch December 18, 2023 09:09

We are currently seeing the comeback of fixed income investments after a historically long, 38-month loss phase for dollar denominated bonds. The time of no alternatives for equities is over, for now. From a multi-asset perspective, we can handle the current challenges of geopolitical tensions, central banks at crossroads, and higher interest rates, very well. We favor robust, well-diversified portfolios that should cope well with different economic scenarios. In view of our base scenario of a soft landing for the economy, with a fall in inflation and interest rates, we are positive about a longer duration. However, lowering inflation from 10% to 5% was the easier part for the central banks - getting from 5% to the targeted 2% will be much more difficult.

In terms of equity allocation, we are neutrally positioned in view of the increased attractiveness of interest rate investments and the geopolitical risks in the Middle East, and favor Europe and Japan over the US. We also favor a more defensive orientation, and the communication services sector, for example, appears promising. We favor growth stocks with quality at reasonable valuations. Gold has its place in portfolios as a risk limiter and also as a yield generator. Our price target for the troy ounce at the end of 2024 is USD 2,250.

First rate cuts expected in 2024

We do not expect any further interest rate hikes for either the US or the eurozone. Following the rise in key interest rates – 450 basis points in the eurozone and more than 500 basis points in the US – monetary policy is likely to be sufficiently restrictive to slow down inflation and growth. Even if central banks are still hesitant to discuss interest rate cuts, we expect key interest rates in Europe and the US to be lowered again for the first time in June 2024.

Economic growth in Europe will be weak in the first half of 2024 and 0.7% for the year as a whole, roughly the same as this year. The US economy has held up surprisingly well so far, however, we expect growth to slow to 0.8% in 2024 from the current 2.3% this year. The situation in China should also improve significantly over the course of next year, however, the recovery of the ailing real estate sector will probably take a little longer. Growth in China is expected to reach 4.7% in 2024.

2024 will be characterized by elections in the US, India, Russia, Taiwan and South Korea, and in the short term, this could lead to significant market reactions like higher risk premiums for bonds, falling share prices, increased volatility and a flight to supposedly safe investments. However, the past has shown that such reactions do not last long, and the effects are very limited to sectors or individual names.

Bond markets: positive total returns in many areas

We expect positive total returns in most market segments on the bond market next year. Our favorites are short and medium-term government bonds and corporate bonds. We expect yields at the short end to fall; two-year US government bonds by 100 basis points and German short-dated bonds by around 50 basis points. We see potential risks if inflation remains higher than currently expected in 2024 and the expected interest rate cuts do not materialize, as well as in an "oversupply" of bonds.

DWS' outlook for corporate bonds is positive. Experience shows that low growth rates and the prospect of interest rate cuts are a good environment for investment-grade corporate bonds. Our favorites are euro investment-grade corporate bonds. Favorable valuations and high yields should attract more capital, and interest rate premiums are likely to fall somewhat. Particularly promising are senior bank bonds, whose spreads should fall slightly.

The relatively high yields of high-yield bonds are also likely to be attractive to investors in 2024. Valuations are attractive in view of the rating quality and the expected moderate default rates. Risks for the asset class could arise in the event of a further escalation of geopolitical tensions and a stronger than currently expected recession.

Covered bonds have become much more attractive as interest-bearing investments with a very high credit quality (AAA rating). Liquidity has improved significantly, and yields are currently around 0.8% higher on average than comparable German government bonds.

Equities: corporate profits growing again – Europe and Japan most promising

After three years of corporate profits stagnating globally, we expect 8% growth in industrialized nations and 11% in emerging markets in 2024. However, this puts us around 3% below the consensus expectations, which we believe are too optimistic as they do not take sufficient account of the impact of high interest rates. The expectations for the MSCI All Country Asia ex Japan are particularly optimistic – where the consensus expectations for earnings growth are particularly high at 21%. DWS, on the other hand, expects growth of 13%.

In 2024, total returns of 6% on the global equity markets are realistic. The US market is very highly valued, and the recent outperformance compared to European equities is almost exclusively due to the good performance of the "Magnificent Seven". Their strong influence is unlikely to change much for the time being in 2024, and they are likely to account for 20% of earnings growth in the S&P 500 next year. We expect investors will stick with the winners at least until there is more clarity on future monetary policy.

For 2024, the stock markets in Europe and Japan are more promising than the broad US market. In Europe, second-line stocks, which have suffered from the risk aversion on the markets and have low valuations, are particularly interesting. If – as we expect – there is a soft landing for the economy, these stocks are extremely promising. Our top pick for Asia is Japan, both from a valuation perspective and in terms of earnings growth, which is supported by the weak yen. Japanese equities are also a good way to benefit from China's growth opportunities.

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Björn Jesch

Global CIO, DWS