How’ve markets performed through weaker growth and persistent inflation?

In our base case we’ve expected weak growth in 2023 (global growth at 2.6%, vs. 50y average at 3.5%) will lead to a significant moderation in global inflation. However, progress in core inflation towards central bank targets has been slower than both us and policy makers have anticipated. The prospect of 2023 being a year of Slowflation, which we define as a state of slow (0 to -1 stnd deviation below trend) economic growth coupled with moderately high (0 to 1.5 stnd deviation above trend) inflation, is rising. We look back at 50 years of market history of the US, and 25 years for Europe and APAC to assess common patterns through prior Slowflation periods.

How to position: Leveraging our quant model with forward-looking insights

Based on our prior research, we set up a 3-factor quant framework to identify assets that should outperform/underperform in Slowflation. We assign the highest weight to history’s lessons, but also take into account current earnings momentum & valuations. We then add a qualitative overlay based on the fundamental views from our stock analysts to capture forward looking and idiosyncratic views. Based on this augmented approach, we construct most/least favoured stocks lists separately for US, Europe and APAC. We also run the numbers at industry group/sector level.

Expanding the Slowflation framework to rates and FX

We adapt the stock selection framework to identify most/least preferred currencies and rates under Slowflation. We replace stock earnings momentum by Commodity Trading Advisor (CTA) price momentum, and replace equity valuation metrics with our proprietary rates & FX valuation models. We apply a constrained Markovitz optimization, flooring the total carry of the portfolios and capping (not preventing) relative value trades.