2023 - What we expect

After the historically bad year 2022, everyone is asking the question: What will happen in 2023? Usually, a bad year on the markets is followed by a good one. But that doesn't have to be the case. The decisive factor in 2023 will also be the development of inflation - and there are positive prospects. However, the economic outlook for Europe and the USA is gloomy. The good news is that much of this is probably already priced into the markets.

The main reason for falling share and bond prices last year was high inflation rates, which prompted central banks around the world to raise interest rates drastically. High energy costs and inflation rates are likely to continue to slow growth significantly in 2023. Next year, this growth will be driven by emerging markets such as India (+6.9%) or China (+4.8%). Neither the euro zone nor the USA can contribute to this, as no growth is forecast on either side of the Atlantic. Looking more closely at the expectation, two negative quarters are expected at the beginning of the year for the euro zone and two negative quarters for the USA, each corresponding to a recession. So much for the forecasts and the expectations on the markets. If this is the case, the stock markets have already anticipated this scenario and adjusted prices downward. The weak economy should also dampen demand and thus significantly lower inflation figures. This would fulfill the task of the central banks, which could ideally even cut interest rates in late 2023 or early 2024 to give the weak economy a boost again. This outlook corresponds to the baseline scenario of most economists: the soft landing.

Bonds have the potential to deliver real returns again. Most economists expect inflation of around 3.5% in the euro zone and the USA by the end of 2023. For the bond market, the question is what real interest rate investors will accept for German 10-year bonds. Since the introduction of the euro, they have received an average of 0.6% above inflation, but since the financial crisis they have been content with -0.6%. With 3.5% price increases, this would yield between 2.8% and 4.1% for 10-year German bonds. At the end of the year, we were at 2.5% here. Yields in the euro zone could therefore rise further in 2023.

The Kathrein bond portfolio is well positioned to benefit from this environment, as a large portion is invested in floating-rate euro bonds, which will benefit if the ECB raises interest rates. We continue to hedge the longer-dated euro bonds. Significant exposure to emerging market local currency bonds yielding around 7.5% is an interesting addition to the fixed income portfolio.  The total return on the portfolio at Kathrein was 4.5% at the turn of the year, well above the expected inflation rate of 3.5%.

On the one hand, equities could be supported by an end to interest rate hikes by central banks and lower key interest rates by the end of 2023; on the other hand, they could come under pressure if a recession in the USA continues in the second half of 2023. Based on our expectations, 2023 could be a very good year for equities. Our average return expectation for equities with a 10-year investment horizon has improved to 8% p.a.