Opportunities on the Horizon: Investing Through a Slowing Economy

Regional Previews | WEALTH OUTLOOK 2023 | MID-YEAR EDITION | 71 FIGURE 2 : Money Market Balances Are at An All-Time High 1500 2500 3500 4500 5500 6500 '00 '02 '04 '06 '08 '10 '12 '14 '16 '18 '20 '22 Money Market Fund Assets ($ billions) Source: Bloomberg as of May 19, 2023. Past performance is no guarantee of future results. Real results will vary. What should investors consider now? Though we are favoring defensive sectors such as Consumer Staples and Healthcare now, there are several areas that are likely candidates for inclusion into portfolios in the coming months. These are sectors that tend to outperform the broader market during and after initial Fed rate cuts. We will continue to favor companies that grow their dividends or are aligned with our Unstoppable Trends. SMID to rise Regional bank shares have pulled back enough for long-term investors to take notice. While it is hard to say for sure that further bank failures are behind us, their systemic importance to the US economy as a whole suggest a rebound in 2024 when loan volumes, lending margins and credit conditions improve. Regional banks now trade at 1.1 times tangible book value, versus a COVID low of 1 times. US small caps have completely given up their outperformance versus large caps in the post- COVID era. As a result of their tepid performance, valuations have improved, with profitable SMID names now trading at 14 times trailing 12-month earnings, a 26% discount to their larger brethren. An expected Fed pivot later in 2023 should change this paradigm, enabling a catch-up in small cap growth shares, led by non-cyclical health care and technology names. A move to longer duration bonds High-quality US bonds are currently offering above average yields versus the past decade (See FIGURE 1 in Bonds are Back Again ) . We see value in government and investment-grade corporate bonds with two- to five-year maturities and in municipal bonds for US investors seeking after-tax income. For qualified investors that do not require highly liquid portfolios, the recent US banking turmoil mixed with volatility in the bond market have provided potential credit opportunities for alternative fixed-income managers with deep research expertise and strong risk management processes, in our view. Finally, we expect this rolling recession to be shallow. Whereas robust recoveries tend to follow deep recessions, moderate recoveries tend to follow shallow ones. This is why being fully invested is critical. The down and up pivot points in markets will likely occur near one another. Capturing the best days will be essential given the modest growth we expect in 2024.