Updating our scenario for 2022

Chief Investment Officer's team
18 April 2022
2022 will see slower growth, higher inflation, and accelerated tightening from central banks


  • 2022 will see slower growth, higher inflation, and accelerated tightening from central banks
  • We have updated our central scenario and our year-end fair values, and made changes to our positioning
  • The backdrop is complex and volatility should remain high, but we remain reasonably confident.

A longer than expected conflict in Ukraine only amplifies the trends pointing to slowing growth and rising inflation. While the economy is so far resilient, especially in the US, Western central banks have all confirmed their intentions to reduce their extraordinary support at an accelerated pace, combining hikes in interest rates with action on their balance-sheets.

We have thus officially changed our central scenario for 2022 and our year-end fair values, to reflect this new reality. While the backdrop is undoubtedly challenging, the good news is that valuations are improving in several asset classes, and that investors’ sentiment has turned pessimistic which is not adverse for the medium term. We have also made changes to our tactical positioning. We have further reduced our underweight in the safest segments of fixed income: we added to government bonds in our Cautious and Moderate profiles, and to investment grade credit in the Aggressive. The current level of yields is close to our new fair value and a large underweight is not justified anymore. This was funded by a combination of cash, now slightly underweight, and stocks: we have reduced our overweight to DM stocks to +1%, with a preference for the US. We have also cut EM stocks to neutral. Their valuations are compelling but we lack a catalyst to unlock this value. Some recovery in DM stocks is probably a precondition. We keep on favoring alternatives: we hold a modest overweight on all three components, hedge funds, real estate and gold.

The near-term should remain extremely volatile, driven by developments in Ukraine as well as by economic data and central banks’ action. However, we see upside potential into the end of the year. Stay safe.

Cross-asset Update

Apprehensions about steadily rising inflation across the globe were reinforced by the CPI release in the United States at a forty-year high last week. An 8.5% print is something most investors have never seen or have long forgotten, and this tells us a lot about the regime change underway, whereby the growth-inflation tradeoff is expected to remain more unfavorable in the longer term versus the past decade. Call it a commodity super cycle, a push towards a green economy creating demand for materials via commodity-intensive investments, with the current conflict only exacerbating preexisting trends, in the end price pressures are much more persistent than anybody could think of. The Fed is reacting strongly to this new state of affairs and going for a very steep tightening cycle, and yields have skyrocketed. It is hard to resist the tendency to extrapolate and not think that we could have more of the same for the rest of 2022. But with inflation projected to peak soon and the economy on a slowdown path, looking in the rear-view mirror to get the future direction of yields might not be the best strategy.

Actually, US core inflation printed a whiff below consensus in March, and from the current release base comparisons will become more favourable, as price pressures started to accelerate one year ago. Mechanically future readings should come down, although there is high uncertainty about how fast. At the same time, noise about recession concerns is only getting louder. We do not subscribe to that kind of noise, though in any case the direction of travel for the US economy should be towards deceleration, not acceleration in the current year. Hence, we can only come to the conclusion that longer-dated yields should not be far from topping out. We would need to see some more evidence of moderating price pressures and not-so-strong macro releases for yields to start stabilizing. All of this should take some time to come to pass, but the odds support that yields in the second half should be somewhat lower versus H1 2022.

In turn, as the economy slows down but remains resilient and momentum in yields becomes a tailwind, volatility in risk assets should be coming down. There is still one big known unknown, and that is the effect of Quantitative Tightening, the shrinking of the Fed’s balance sheet. The previous precedent, in 2018, when Powell announced in December that the balance-sheet wind-down was on autopilot, did not end well for markets, which crashed and then rallied only when the Fed backtracked. QT lasted for about two years, from 2017 to 2019, so its shock waves to markets were not immediate, but this time the monthly QT run-rate is twice as high and multiples make equities more vulnerable. So, although the bulk of the movement in yields should be behind us, the starting of QT planned for next month may well keep us on high alert.

Fixed Income Update

When we had predicted our fair values for different segments and the 10-year US yields year-end 2022 at the beginning of this year, the market was pricing in four rate hikes by the Fed and QT to begin sometime in the second half of the year. The terminal rate priced in was less than 2%. Since then, inflation has been rampant, and the Fed's rhetoric to fight inflation has only increased. The hawkish pivot in March led to the change in the terminal rate projections to slightly above 3% and a possibility of additional nine rate hikes in the remaining six FOMC meetings through the end of the year. Moreover, there are changes in the economic growth projections and the shape of the yield curve. This is a change in the scenario for us and has led us to review our year-end fair values in our April Tactical Asset Allocation Committee meeting.

Our fair value for the year-end 10-year UST yield has been revised to 2.8% to reflect the new scenario, and we believe there is an upside risk to the target in the interim. We think we're at peak hawkishness and have reduced our underweight allocation to DM Treasuries; as a result, to lock in the attractive yields. Investment Grade debt has the longest duration among the different segments we track. The spreads had widened to cross 130 and have come back to the 110s. With two levels of monetary tightening to proceed, we anticipate spreads will not go back below 100. Therefore, we have revised our YE spread estimates upwards to 100-125 bps. We maintain our underweight on the asset class due to its long-duration nature.

We also anticipate similar widening trends for Emerging Market Debt and High Yield Debt. High Yield debt spreads could widen as refinancing costs increase, leading to more defaults as we are currently at peak credit quality. EM Debt spreads will widen as we see more stress in the frontier and commodity importing countries. Our new FV estimates for HY and EM Debt stand at 425 bps to 475 bps and 275 bps to 325 bps, respectively. We are neutral on High Yield and Overweight on EM Debt.

GCC Debt continues to benefit from the favorable sentiment towards commodity exporters. The current spreads are slightly below our current FV estimates. With oil prices expected to remain strong, we revise our spreads estimates to 100-150 bps. This is the only segment where we expect the year-end spreads to be tighter than the start of the year levels. However, we believe that most of the return in this asset class will be delivered from carry rather than spread changes.

Equity Update

Equities sold off last week, between 1 – 2% across most regions, with tech a little worse off. Dubai and KSA s were among the few with a positive week. DEWA’s successful listing and pop on trading cites well for future issuance. High dividend payers remain attractive in an inflationary regime. Barring commodity heavy regions/ sectors i.e. the GCC/ LATAM/U.K./energy/material or domestically focused economies i.e. India, all other equity indices are negative year to date.

In our latest asset allocation committee meeting we retained our equity overweigh on DM equities, but lowered it, and took EM to neutral to reflect slowing growth, rising inflation, amplified by the war in Ukraine, and accelerated tightening from Western central banks. We adjusted our year-end fair values for key equity indices. We still see some upside potential from current levels for the end of the year. We have lowered earnings growth estimates for all regions except the US, as it is less exposed to the Ukraine conflict and the GCC, which is supported by higher oil prices. Inflation and higher rates are expected to affect margins. We have reduced valuation multiples (P/E) except for the GCC. Within DM we prefer the US and the UK, in EM the UAE and India. Valuations are starting to be more reasonable, although more appealing in EM where we still see a lack of catalysts for near term performance. Amongst sectors we like energy, financial, healthcare and select technology subsectors.

We remain neutral Asian equities as China is 30% of the EM Index. China’s GDP rose 4.8% y/y in Q1 compared to 4% in Q4 21. Still below the govt. 5.5% target for 2022. Retail sales for March fell by 3.5% y/y, the first contraction since March ’20, as many cities remain in lockdown. India is better positioned as eco growth has not been revised down which should reflect in strong EPS growth for 2022.

Inflation is leading the market narrative. U.S. consumer prices and producer prices are at 40-year highs. War, inflation, higher oil and gas prices, supply chain disruptions, the virus and monetary tightening are increasing uncertainty for markets. The Fed remains hawkish as it looks to embark on the steepest hiking cycle since the ‘90s. Financial firms in the S&P 500 have led the Q1 earnings, with 10 out of 11 banks beating estimates, but growth lower from the fallout of the Russia Ukraine conflict. Consumer discretionary (Tesla) and communication services (Netflix) earnings are in focus this week. Elon Musk is in the headlines after controversial comments about the SEC in his recent TED talk. Meanwhile, Twitter has adopted the poison pill to shield it from hostile acquisition bids.

Many U.S. companies are raising prices to offset higher costs, as the S&P 500 is projected to report revenue growth above 10% for Q1, double that of earnings growth. “Inflation” on earnings calls is a trend continuing into Q1 this year. Higher costs are having a negative impact on net profit margins. As per FactSet, the S&P 500 consensus net profit margin for Q1 is at 12.1%, lower than Q4 ’21, though estimates are higher for the following quarters.

Written by:
Emirates NBD Bank PJSC (“Emirates NBD”) is licensed and regulated by the UAE Central Bank and this website aims at providing Internet users with information concerning Emirates NBD Private Banking, its products and activities. Persons having access to information made available by Emirates NBD on this website accept the following rules:

Emirates NBD uses reasonable efforts to obtain information from sources which it believes to be reliable, however Emirates NBD makes no representation that the information or opinions contained in publications on this website are accurate, reliable or complete. Published information may include data/information from stock exchanges and other sources from around the world and Emirates NBD does not guarantee the sequence, accuracy, completeness, or timeliness of information contained on this website provided thereto by unaffiliated third parties. Anyone proposing to rely on or use the information contained on this website should independently verify and check the accuracy, completeness, reliability and suitability of the information and should obtain independent and specific advice from appropriate professionals or experts. Further, references to any financial instrument or investment product are not intended to imply that an actual trading market exists for such instrument or product. Emirates NBD is not acting in the capacity of a fiduciary or financial advisor. Any publications on this website are provided for informational purposes only and are not intended for trading purposes. Data/information provided herein is intended to serve for illustrative purposes and is not designed to initiate or conclude any transaction. The information available on this website is not intended for use by, or distribution to, any person or entity in any jurisdiction or country where such use or distribution would be contrary to law or regulation. This website and anything contained herein, is provided "as is" and "as available," and that Emirates NBD makes no warranty of any kind, express or implied, as to this website, including, but not limited to, merchantability, non-infringement, title, or fitness for a particular purpose or use.

The provision of certain data/information on this website is subject to the terms and conditions of other agreements to which Emirates NBD is a party. Emirates NBD reserves the right to make changes and additions to the information provided at any time without prior notice. The information may be modified or removed without prior notice. No buy or sell orders submitted via the internet or email will be accepted. In addition, the data/information contained on this website is prepared as of a particular date and time and will not reflect subsequent changes in the market or changes in any other factors relevant to the determination of whether a particular investment activity is advisable.

Information contained on this website is believed by Emirates NBD to be accurate and true, in all material respects. Emirates NBD accepts no responsibility whatsoever for any loss or damage caused by any act or omission taken as a result of the information contained on this website. Further Emirates NBD accepts no liability for the information and opinions published on the website and is under no obligation to remove outdated information from its website or to mark it clearly as such. The information given on this website may not be distributed or forwarded in whole or in part. Accordingly, anything to the contrary herein set forth notwithstanding, Emirates NBD, its suppliers, agents, directors, officers, employees, representatives, successors, assigns, affiliates or subsidiaries shall not, directly or indirectly, be liable, in any way, to you or any other person for any: (a) inaccuracies or errors in or omissions from the information available on this website including, but not limited to, quotes and financial data; or (b) loss or damage arising from the use of this publication, including, but not limited to any investment decision occasioned thereby. or (c) under no circumstances, including but not limited to negligence, shall Emirates NBD, its suppliers, agents, directors, officers, employees, representatives, successors, assigns, affiliates or subsidiaries be liable to you for direct, indirect, incidental, consequential, special, punitive, or exemplary damages even if Emirates NBD has been advised specifically of the possibility of such damages, arising from the use of the information on this website, including but not limited to, loss of revenue, opportunity, or anticipated profits or lost business. Emirates NBD expressly accepts no liability for losses or damages of any kind arising from using or accessing this website or links to third-party websites or from viewing information on any of its web pages. Furthermore, Emirates NBD accepts no liability for any unauthorized manipulation of users IT systems. Emirates NBD expressly draws user’s attention to the risk of viruses and the threat of hacker attacks

Third Party Website:
Users may be aware that Emirates NBD has no control whatsoever over third-party websites linked to or from this website and therefore accepts no liability for the content of such websites being correct, complete and legally valid for the products and services offered on such websites. Emirates NBD’s express written permission must always be sought before including a link to this website on a third-party website.

None of the information on this website in any way constitutes a solicitation, offer, opinion, or recommendation by Emirates NBD to buy or sell any security, or to provide legal, tax, accounting, or investment advice or services regarding the profitability or suitability of any security or investment.

Forward Looking:
The information contained on this website does not purport to contain all matters relevant to any particular investment or financial instrument and all statements as to future matters are not guaranteed to be accurate. Certain matters in this publication on the website are about the future performance of Emirates NBD or members of its group (the Group), including without limitation, future revenues, earnings, strategies, prospects and all other statements that are not purely historical, constitute “forward-looking statements”. Such forward-looking statements are based on current expectations or beliefs, as well as assumptions about future events, made from information currently available. Forward-looking statements often use words such as “anticipate”, “target”, “expect”, “estimate”, “intend”, “plan”, “goal”, “seek”, “believe”, “will”, “may”, “should”, “would”, “could” or other words of similar meaning. Undue reliance should not be placed on any such statements in making an investment decision, as forward-looking statements, by their nature, are subject to known and unknown risks and uncertainties that could cause actual results, as well as the Group’s plans and objectives, to differ materially from those expressed or implied in the forward-looking statements. Past performance is not necessarily a guide to future performance. Estimates of future performance are based on assumptions that may not be realized.

Risk: In addition, before entering into any transaction, the risks should be fully understood and a determination made as to whether a transaction is appropriate given the person’s investment objectives, financial and operational resources, experiences and other relevant circumstances. The obligations relating to a particular transaction (and contractual relationship) including, without limitation, the nature and extent of their exposure to risk should be known as well as any regulatory requirements and restrictions applicable thereto. Data included on this website may rely on models that do not reflect or take into account all potentially significant factors such as market risk, liquidity risk, and credit risk. Emirates NBD may use different models, make valuation adjustments, or use different methodologies when determining prices at which Emirates NBD is willing to trade financial instruments and/or when valuing its own inventory positions for its books and records.

Investment in financial instruments involves risks and returns may vary. Before making such an investment, investors should consult their advisers on the legal, regulatory, tax, business, investment, financial and accounting implications of the investment.

Intellectual property:
The information on this website has been developed, compiled, prepared, revised, selected, and arranged by Emirates NBD and others (including certain other information sources) through the application of methods and standards of judgment developed and applied through the expenditure of substantial time, effort, and money and constitutes valuable intellectual property of Emirates NBD and all present and future rights in and to trade secrets, patents, copyrights, trademarks, service marks, know-how, and other proprietary rights of any type under the laws of any governmental authority, domestic or foreign, shall at all times be and remain the sole and exclusive property of Emirates NBD and/or other lawful parties and you acknowledge that you have no ownership rights in and to any of such items. Except as specifically permitted in writing, the information provided in this website shall not be copied or make any use of any information on this website or any portion of the intellectual property rights connected with this website, or the names of any individual participant in, or contributor to, the content of this website, or any variations or derivatives thereof, for any purpose. Further you shall not use any of the trademarks, trade names, service marks, copyrights, or logos of Emirates NBD or its subsidiaries in any manner which creates the impression that such items belong to or are associated with you or, except as otherwise provided with Emirates NBD’s prior written consent,

The information on this website solely for non-commercial use and benefit and the use of this information is not intended for resale or other transfer or disposition to, or use by or for the benefit of, any other person or entity. Information contained in this website shall not be used, transferred, distributed, reproduced, published, displayed, modified, create derivative works from any data contained on this website or disposed of in any manner that could compete with the business interests of Emirates NBD. Any part of this website may not be offered for sale or distribute it over any medium including but not limited to over-the-air television or radio broadcast, a computer network or hyperlink framing on the internet without the prior written consent of Emirates NBD. The information contained on this website may not be used to construct a database of any kind. The data on this website shall not be used in any way to improve the quality of any data sold or contributed by you to any third party.

Recipient Acknowledgements
In accessing this website, you acknowledge and agree that there are risks associated with investment activities. Moreover, you agree that your use of this publication is at your sole risk and acknowledge that the responsibility to obtain and carefully read and understand the content of documents relating to any investment activity described on this website and to seek separate, independent financial advice if required to assess whether a particular investment activity described herein is suitable, lies exclusively with you.

Emirates NBD Bank (P.J.S.C.) is licensed by the Securities & Commodities Authority and subject to regulation, supervision and control of the Authority.
Head Office : Baniyas Road, Deira, PO Box 777, Dubai, UAE