While last year was defined by feverish optimism across equity markets, 2022 started with multi-decade-high inflation in several countries and the S&P 500 booking its twenty-seventh correction of more than 5% in the last decade.
Against this unsteady backdrop, Paul Jackson, global head of asset allocation at Invesco, has revealed 10 unlikely possibilities for the year ahead.
Jackson posited the biggest returns are earned by taking non-consensus positions. With the prospect of as many as five rates hikes by the US Federal Reserve creating mixed market sentiment, he offered outcomes he believed have at least a 30% chance of occurring.
1. S&P 500 closes the year lower than it started
Recanting one of the previous year’s hot takes, Jackson’s prediction of a muted year for US large-cap equities looks a lot more reasonable given the S&P 500’s early form in 2022.
He noted the popular benchmark returned 26.4%, 18.4% and 28.3% over the past three years. S&P 500 returns exceeding 15% a year for three consecutive years has only happened nine times since 1915, with these instances only grouped into four distinct episodes.
Uncomfortably, some of these periods cover 1926-1928, 1951-1952 and 1997-98 – all concluding roughly a year before a significant index correction or broader recession across the US economy.
“With a Shiller PE above 38, the market has rarely been so expensive and history suggests that S&P 500 returns over the coming 10 years will be limited,” Jackson argued.
“On top of which, the Fed appears more hawkish than for some time (with three rate hikes a possibility this year, along with balance sheet shrinkage), which may bring short-term volatility.”
2. US 10-year Treasury yield goes above 2.50%
Last year, Jackson said US 10-year Treasury yields going above 2% was an improbable possibility. Currently, they hover around 1.8%, with Invesco’s year-end forecast sitting at 2.2%, however, he thought 2.5% would be a more ambitious target.
“In fact, it seems so unlikely that we think it worth considering, especially given the possible fallout,” he said.
Pondering what would cause this left-field yield prediction to materialise, Jackson predicted economic reopenings, persistent inflation, rate hikes and balance sheet shrinkage would provide sufficient upward pressure.
“We expect the inflation-adjusted 10-year yield to move towards zero (it was -0.77% on 7 January). We believe this could temporarily disrupt financial markets.”
3. Travel and leisure outperforms on the ‘great reopening’
The posterchild of pandemic underperformance, the travel and leisure sector has lagged the Datastream World index over the last three years by an annualised rate of 10.4%.
At the other end of the spectrum, technology outperformed by 17.1% on the same comparison, though this is already souring with the Nasdaq Composite falling 9.4% during the first 20 days of the year.
“If there is a silver lining to Omicron it is the apparent weakening of the virus (in terms of symptoms),” Jackson suggested. “This may have brought us closer to being able to live with the virus, thus enabling a return to “normality”. We suspect travel and leisure would benefit enormously from that.”
4. The US Senate remains Democrat
Looking towards US politics, Jackson said it was a “no-brainer” to suggest the US Congress will be Republican following the mid-elections on 8 November.
“President Biden is the least popular post-WW2 president (except Donald Trump) at this stage of the presidency and that is usually a good barometer of the swing away from the party of the incumbent president (see analyses done by FiveThirtyEight, for example, which shows that his net approval rating has slipped from +17 upon entering the White House to -8.4 now).”
However, Senate elections are harder to forecast, with only a third of the 100 seats up for grabs. Democrats hold 14 of these while 20 belong to Republicans – five Republicans are retiring versus one Democrat. While the Republicans only needing a single net gain of one seat to take control, Jackson sees room for a surprise – and avoiding a Republican clean sweep would certainly be easier for Biden.
5. Australia changes government and emissions policies
Elsewhere in politics, Jackson forecast Australia will renege on its pledge of carbon neutrality by 2050, instead saying the current trajectory set by its Conservative leadership would not see targets achieved until 2080.
Jackson said: “As a large producer of coal it has a vested interest in delaying mitigation actions (The BP Statistical Review of World Energy suggests that in 2020 Australia accounted for 14% of the world’s coal reserves and 6% of its production).
“However, opinion polls suggest there will be a change to a Labor government at the next election (to be held on or before 21 May 2022).
“The Labor Party of Anthony Albanese has committed to a 43% cut in emissions by 2030 (compared to 2005 levels) versus the 26%-28% cut committed to by the government of Tony Abbott in 2015 and the 35% forecast (but not commitment) of the current government.”
6. Bitcoin falls below $30,000 during 2022
Though a far-cry from the sub-ten-thousand nadir prophesied by Jackson in 2021, his firm’s internal modelling suggests bitcoin tends to fall 45% in the 12 months following a peak in its financial mania.
“The mass marketing of bitcoin reminds us of the activity of stockbrokers in the run up to the 1929 crash,” he added.
The crypto’s current arc on Invesco’s mania template implies it could fall to between $34,000 and $37,000 by October and below $30,000 by year-end. Though, Jackson was quick to attach a health warning to this prediction, given bitcoin’s seeming multi-bubble potential.
7. Turkey government debt outperforms
Moving onto sovereign debt in a turbulent setting, Turkish equities and currency suffered in 2021 due to poor policymaking.
As Jackson noted: “The country appears to be caught in an inflation/currency depreciation spiral (the lira declined by 44% versus the USD in 2021 and CPI inflation reached 36% in December).”
He said while this could make it un-investable but entertained Turkish exposures as a contrarian play. The yield on 10-year USD denominated Turkish Government bonds was 8% on 7 January, while the 5-year yield was 7.8%, versus US T-bill yields of 1.8% and 1.5% for the same maturities. Jackson argued this is a considerable cushion, unless Turkey defaults.
Taking this a step further, he pointed to local currency 10-year government debt yielding 23%, which offers strong cushioning against further, future currency depreciation. However, betting against the dollar and in favour of the lira seems foolhardy in a high-inflation setting.
8. Brazilian stocks to outperform major indices
Expressing support for the ‘holy grail’ of a dividend yield exceeding the price-earnings (P/E) ratio, Jackson said this can be found in Kenya, Laos, Pakistan, Russia and Brazil.
With the IBOVESPA index having fallen 13.2% over the six months through 19 January, its p/e ratio stood at 6.6, while it boasted a dividend yield of 8.5% (though expected to change to 7.6% and 7.4% based on Bloomberg consensus forecasts).
“Having been in the bottom three equity markets for each of the last two years, we suspect 2022 could be the year of rebound, despite (and perhaps because of) the possible election of a left-wing president (opinion polls have Lula well in front).”
Investing orthodoxy would also suggest Brazil’s materials and energy-heavy economy of real goods will outperform in a high inflation environment, while its bias to financials will benefit from rates rises.
9. EU carbon goes above €100 per tonne
Jackson’s predictions that EU allowances (EUAs) would break through €30 in 2020 and €50 in 2021 now look conservative at the current price of around €80.
Making the case for EUA’s, he argued: “Climate change is the ultimate externality and we think internalising the problem via pricing mechanisms has a big role to play in limiting its extent.
“The EU carbon allowance scheme is one such solution, where the right to emit carbon can be bought and sold, thus leaving it to the market to figure out the most efficient way to reduce emissions (the number of allowances is reduced over time).
Further, the introduction of the European Commission’s Market Stability Reserve means supply is automatically adjusted downwards when there are a glut of permits on the market, while the EU decided to ban the use of international credits by European companies, leaving EUAs as the only option for permits.
The Stern Review calculated the social cost of carbon to be €96 per tonne at today’s exchange rate. Not only might this value have increased but a 2022 ‘great reopening’ may push EUA price up into triple figures.
10. Argentina wins FIFA World Cup 2022
Rounding off his list on the big event of the year, Jackson noted Brazil and reigning champions France are the bookies' favourite to win the world cup.
However, given the groups are yet to be decided, it is impossible to chart the path to the final.
“Nevertheless, armed with an incomplete information set, we suspect that Argentina and England have as good a chance as any and we are going with the former, to avoid accusations of home bias,” Jackson concluded.