Outlook for 2023
The global economy grew below trend in 2022 and should decelerate further in 2023, as rapid increases in (developed market) short-term interest rates start to bite, and higher (energy) prices hurt consumer budgets.
According to the Organisation of Economic Cooperation and Development (OECD), 18 out of 38 OECD countries experienced double-digit inflation in 2022, while global growth is forecast to roughly halve in 2022 to just above 3% p.a. and slow even further in 2023.
Fortunately, market expectations at the start of 2023 were that the global slowdown will be relatively mild, inflation will fall rapidly, and the US Federal Reserve (Fed) could be cutting rates by the end of the year. Having said that, the consensus is often wrong, and there are several tail risks that could drive market volatility this year, including escalating geopolitical risks and central bank and government policy error.
Last year, the US Fed hiked short-term interest rates seven times, and the South African Reserve Bank six times, and market consensus is that further rate hikes are warranted to bring inflation back towards their target bands. These interest rate increases work with a lag effect and in a recessionary outcome could well drive global economic growth below 2%, especially if China unsuccessfully manages its COVID-exit strategy, or the war in Ukraine escalates.
Notwithstanding the deceleration in global growth, the global economy is not on track to limit global warming to 1.5 degrees above pre-industrial levels (latest modelling based on current policies suggests we are on track for almost twice that amount), while the Russian invasion of Ukraine placed increased emphasis on short-term energy security over long-term sustainability, and the Cop27 Conference on Climate Change underwhelmed in terms of countries making new climate commitments.
South African assets continue to have a strong valuation underpin, although it is hard to see a domestic catalyst that could unlock growth. In 2022, South Africa only made tepid progress in structural reform and is still overly reliant on certain individuals (rather than robust institutions) to improve investor confidence.
Moreover, recurrent shocks to the economy have sapped its strength and highlighted its fragility. The South African Reserve Bank now expects the SA economy to grow by less than 1.5% p.a. by 2025 with recurrent loadshedding and political inertia both providing profound headwinds.
On balance, we reduced our exposure to riskier assets in 2022 into strength and would look to do further in 2023 should markets rally further. Now into 2023, we have a neutral allocation to SA equities relative to our strategic asset allocation, and we remain underweight foreign equities.
Generally, it pays to be optimistic, and our decision to remain underweight total equities is carefully considered. In addition, our investment process takes both a bull and bear scenario into account, and we must be comfortable that our positioning is sufficiently appropriate even if the world turns out better than we expect. In our view, our portfolios are appropriately positioned, and we have sufficient exposure to managers that should perform well in a scenario where global growth surprises on the upside, while also being able to manage downside risks if things turn out worse than expected.
Fortunately, the ANC Elective Conference in December 2022 delivered as market-friendly an outcome as possible, with Ramaphosa re-elected as ANC President, but the NEC remains divided, and several of the top seven (where Ramaphosa has the majority) are compromised. At best, we can expect incremental reform, and key institutions not further compromised, but until the ruling party loses its majority it is difficult to see how it can reform itself emphatically.
Having said that, our portfolios will benefit if investor confidence in South Africa improves, given we have a significant allocation to South African bonds in most portfolios, and can allocate from SA cash if we have greater conviction and clarity from government policy. Given our concerns around global growth, we do anticipate more attractive entry points into SA equities should macro headwinds materialise, while we will also look for opportunities to further reduce equities should markets continue to rally.
Despite challenges in the macroenvironment, our portfolios have continued to deliver resilient performance, and our asset managers are finding investment opportunities that a long-term perspective will justly reward including in South Africa where there remains an attractive valuation underpin. While we anticipate further market volatility this year, our portfolios remain well-diversified, and well-positioned to respond to changing market conditions.
