Pablo Gil, chief strategist of the Polish broker XTB, has just presented an exhaustive analysis with the challenges that investors face in 2023 and the clues to avoid falling into an ambush of the macroeconomics and the markets. To do this, the expert has resorted to the universal iconography of one of the masterpieces of cinema, “The Good, the Bad and the Ugly” by Sergio Leone, with the aim of putting eyes and a face on the three scenarios that, in their opinion, can be given and how to act before them.
According to his conclusions, the most probable investment scenario is the one represented by Tuco (Eli Wallach), aka the Ugly, although he also does not rule out the others: Joe (Clint Eastwood), the lone gunman known as “The Good”; and Angel Eyes (Lee Van Cleef), a hit man known as “El Malo.” Fiction confronts them in a fight for treasure and survival. Already in the reality of 2023, financial history will be plagued with threats before which it is worth having a roadmap to take advantage of investment opportunities and minimize risks.
Gil focuses his strategic vision and the bottom line on the evolution of inflation and five other catalysts. First, the recession-growth tandem; second, the evolution of corporate profits; third, the geopolitical risks to Russia derived from the war in Ukraine and/or the potential annexation of Taiwan by China; fourth, the Covid in China; fifth, credit and its impact on the real estate market or cryptocurrencies.
Rate hikes and the cost of debt
The starting point is the unknown effect of the cumulative rise in realized interest rates in the US (425 basis points), Europe (250 basis points) and other developed economies. “In a world where global debt represents more than 350% of GDP, increasing the cost of money as quickly as it is being done can have serious consequences,” warns the expert in his report.
Federal (Fed) and the European Central Bank (ECB), which have lent as never before in the purchase of bonds between 2020 and 2021 with massive stimulus programs and negative rates with the aim of avoiding deflation under the ideal that inflationary pressures “they were a thing of the past.” But Western CPIs woke up on energy prices, accelerated by the supply crisis and Russia’s war in Ukraine.
“But once the problem became so big that it was impossible to hide it, the strategy of the central banks did a 180 degree turn,” he says. The Fed raised rates in March 2022 and the ECB did so in July but since then they have done nothing but declare war on inflation ‘at any cost’, even inducing economic recession to appease demand and thus influence in inflation expectations. Some have described the process as killing flies with a cannon due to the direct incidence in the disinflation of assets, destruction of the labor market and more expensive financing. Depending on the degree of deterioration, Gil exposes his three scenarios
Good scenario: sharp drop in inflation, curb rates and mild recession
Gil recommends betting on the stock market for defensive sectors against “growth” or growing sectors in the event that Joe (Clint Eastwood) appeared as the winner of this duel of forecasts. In bonds, develop ‘steepening’ strategies (buy short-term fixed income and sell long-term). He also believes that we must pay attention to the dollar because it will lose attractiveness compared to the rest of the currency pairs and places the reopening of China after the Covid zero period as a positive catalyst for the Asian stock markets.
“There is a global economic slowdown as a consequence of the 2022 monetary tightening, but a deep and generalized recession is avoided. Fixed income is once again attractive to the extent that the inflation problem is controlled and no more interest rate rises are in sight than those already discounted by the market. The long part of the curve begins to quote the return to the monetary normality of the last decade, which implies terminal rates well below the levels reached during the first quarter of 2023 ”, he assures.
Ugly scenario: trade war, relocation and resilient inflation
The XTB expert sees this situation as the most likely due to the continuation of Russia’s war in Ukraine and the ‘in crescendo’ pulse with the West. “This new reality supposes the metamorphosis of a globalization that has sustained a deflationary environment for decades towards a different reality: multilateral protectionism”, he warns. Thus, this scenario contemplates a slower disinflation with doubts about the ability to return to the 2% target, which in turn causes more restrictive policies from central banks. In turn, corporate profits would draw falls and China would become last place because it continues its slowdown, increasing its imbalances.
In this way, if Tuco takes control of the markets, the bear market of 2022 would extend over time, which is why he recommends giving more weight to defensive and basic consumer values compared to cyclical and growth values. “In this new reality, the high connection between variable income and fixed income that has been experienced during 2022 is maintained, making it difficult for the investor to diversify portfolios,” he points out. The best way to avoid it, therefore, would be to seek refuge in quality debt and avoid poorly rated corporate and emerging market bonds. Gold, raw materials, food and real estate will perform better in this scenario than other assets.
Bad scenario: if something can get worse, it will
If Angel Eyes (Lee Van Cleef) is the one who takes the cat to the water, it is best to take cover. XTB’s third scenario suggests that a financial crisis could break out due to new sources of tension at the geopolitical level, such as the possibility of a nuclear conflict led by Putin and an internal crisis in China, as well as at the economic level, due to financial imbalances. that have been going on for years but have not been evident due to lax financial conditions.
This crisis would be aggravated by persistent inflation, a delayed reaction from central banks again and an energy crisis due to adjustments in the OPEC crude supply. “The effects of such a restrictive monetary policy end up causing recessions in the United Kingdom, Europe, Japan, the US. and China is not able to get out of its process of economic slowdown. Emerging markets are also dragged into a severe contraction and this in turn causes a collapse in business results, which makes the level at which many companies and stock market indices are listed unjustifiable”, Gil points out.
In summary, the most ominous version of the future of 2023 would pose a very unfavorable economic environment, with a global recession and a significant drop in the stock markets. In addition, central banks would be handcuffed due to the resistance of inflation and the increase in the perception of risk for investors. A high level of connection to equities remains on the downside. For its part, the real estate market would be affected by high financing costs, but instead of a severe adjustment in housing prices downwards, it could be an inoperative market with a drastic reduction in the number of transactions and a slight downward price adjustment, something similar to what happened in the 2008-2012 crisis in Spain, when the real downward price adjustments came to an end.
What to do in this scenario? Gil predicts that, if the macro and financial conditions are met, there would be falls of more than 50% from maximums, “it would be necessary to seek coverage via volatility and defensive strategies via options”, that is, with the opening of short positions that are allowed by pro cart and neutralize falls. Investment in ‘hedge funds’, precious metals and in the dollar area would be safe havens to take into account, while peripheral European debt, bonds with a low credit rating and the financial sector would be the most dangerous sites.
