The market now appears to be less worried about inflation and more concerned about the likelihood of a global recession, according to Premier Miton Investors’ Anthony Rayner. 
Markets are in the midst of broad-based sell-off, which has seen many assets tank in value since the start of the year. This has been largely down to soaring inflation and interest rate hikes from several of the world’s major central banks.
As the chart below shows, global equities (the MSCI ACWI) and government bonds (Bloomberg Global Treasury) have both lost money over 2022 so far while commodities have surged. Multi-asset manager Rayner pointed out that US government bonds are at their most volatile since the global financial crisis and have been for some time.
Performance of main asset classes over 2022
Source: FE Analytics
“The uncertainty around inflation, and therefore central bank policy, expressed through higher bond yields and higher bond volatility, has led to quite a bit of froth being taken out of equity markets, most notably tech stocks,” he added.
“However, the dynamic is much broader than that, including bitcoin and the like, which are down materially. Meanwhile, corporate bond and emerging market government bond spreads have widened materially, reflecting a broader concern around risk assets.”
There’s a more nuanced picture around commodities, which have surged in price across most of 2022.
The price of copper, which has a high degree of economic sensitivity, has dropped recently in light of a weaker economic outlook. For example, International Monetary Fund has cut its 2022 global growth forecast to 3.6%, down from the 4.4% it said it was expecting in January this year.
On the other hand, the price of energy commodities remains close to record highs because of a tighter supply outlook, in large part due to the ongoing conflict in Ukraine. It’s a similar story with agricultural commodities: Russia and Ukraine are key exporters in both the energy and agricultural markets.
“It seems that concerns about inflation have been damaging across assets, with the exception of areas like commodities. However, more recently this dynamic has changed. Last week, for example, we still saw frothy equity and bitcoin continue to be punished but developed government bonds rallied, and defensive equity performed relatively better,” Rayner said.
“Pulling those more recent asset class moves together, markets are increasingly focusing on recession risk rather than inflation risk. We believe there is some logic in focusing on recession risk, with central banks raising rates and China’s draconian lockdowns hurting the world’s second largest economy. However, markets seem to increasingly believe that US inflation is peaking and that inflation will move back to very low single digit levels.”
While Premier Miton Investors’ multi-asset team has “some sympathy” with the view that inflation will peak in the short run, it has doubts that it will eventually settle at pre-Covid levels. Rayner cautioned investors against thinking that inflation risk is therefore on its way out.
“Too many dynamics have changed, not least, a trend for de-globalisation rather than globalisation,” he said.
“We think inflation and recession risk remain elevated. Importantly, whether or not the US Federal Reserve can manage a soft landing will depend on how persistent inflationary pressures are. So, we remain focused on inflation.”
Because of this, co-manager David Jane and Rayner have recently adjusted the equity exposure of their Premier Miton multi-asset funds to reflect the view that inflation risk remains elevated but recession risk is growing.
Part of this has been a significant reduction in exposures to cyclical areas like banks and more modest reductions materials, industrials and consumer discretionary stocks. At the same time, they have been adding to consumer staples and utilities.