by David Picton & Team, CEO, Picton Mahoney Asset Management
Overview
Equities staged a strong recovery rally in the fourth quarter of 2022, with peaking inflation and falling interest rates helping drive stocks higher. However, tough talk from U.S. Federal Reserve (Fed) Chair Jerome Powell and other central bankers around the world put a dent in the typical year-end rally. Services-related inflation seems set to remain stubbornly high for some time and the Fed appears determined to avoid seeing higher inflation become entrenched in longer-term inflation expectations. In short, the market has a far more unfriendly Fed than it desires – or is willing to acknowledge.
As 2023 gets underway, the market should increasingly come to appreciate that the Fed is willing to cause an economic contraction to crush inflation. Data has already started to weaken, and we expect investors’ attention will shift from peaking inflation to the rising probability of recession. Equities are not yet priced for a recession and, as a result, we think it is likely that stock markets will pull back – maybe considerably – in the first half of 2023. However, deteriorating economic and financial conditions will eventually compel the Fed to relent and change course. This should confirm the stock market and economic cycle lows, leading to a powerful move higher in share prices.
Until then, investors will fight the Fed at their peril.
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