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How to do asset allocation next year? The key lies in how to judge the global economic environment next year. The Chinese government’s zero-epidemic policy has come to an end, and the market is looking forward to a comprehensive economic recovery that will soon be brought about by the end of the zero-clear policy. After the 20th National Congress of the Communist Party of China, the market also expects that the government’s work focus will shift to economic construction, and after Xi Jinping’s visit, the market also expects that relations across the Taiwan Strait will become increasingly stable and the risk of military conflicts will be greatly reduced. At the same time, the U.S. consumer inflation index has recently fallen from a high point, and Federal Reserve Chairman Powell has also begun to soften his tone on interest rate policy, pointing out that interest rates should not be too tight, so that the economy enters a recession. The market is jubilant. It is believed that U.S. inflation has peaked, and the pace of interest rate hikes by the Federal Reserve will slow down, and it has even begun to expect two interest rate cuts next year. In this regard, the Hong Kong and US stock markets rebounded rapidly.
Personally, I think these views of the market are too optimistic. First of all, although the zero-clearing policy in China has basically ended, we should not underestimate the peak of the number of infections and the corresponding death toll caused by the sudden release of the zero-clearing policy in recent years. At present, most countries in the world have experienced multiple impacts of various variants of the new crown virus, and have seen the seventh and eighth waves of the epidemic. China has basically not made sufficient preparations for medical resources, social organizations, anti-epidemic knowledge publicity, etc., and suddenly opened up all of a sudden. The epidemic will sweep people’s lives, daily life, and economic activities like a tsunami.
Even if it is optimistically estimated that after the peak of the epidemic in the second half of next year has completely passed, the negative consequences of the three-year epidemic caused a large number of domestic business bankruptcies and rising unemployment will continue to be revealed, and the economy still needs to slowly breathe and recover. Faced with an aging population, the bursting of the real estate price bubble, and the overall rise in all types of debt, the banking system is facing dual pressures: it needs to deal with the rise in bad debts and support economic recovery.
At the same time, the fiscal revenues of the provinces have declined, while various expenditures have risen sharply. Entering next year, after the double blow of the epidemic and employment, residents generally appear risk aversion behavior, resulting in rising savings and lack of consumer confidence. However, private entrepreneurs have many concerns about common prosperity and the policy of expanding the planned economy, and the growth of private investment is sluggish. At the same time, the relationship between China and Western countries headed by the United States is tense. In major areas, the general trend of decoupling between China and the West is beginning, which restricts China’s export market; Technological progress will face further resistance. Consumption, export, investment, and technology will all cast a huge shadow over next year’s economic growth.
Secondly, from the perspective of international geopolitical risks, the Russia-Ukraine war is still ongoing, and the Russian army is retreating steadily, but it is still fighting a trapped beast. After all, Russia’s economic volume is close to ten times that of Ukraine’s economic volume. Coupled with the sharp rise in oil prices in the past two years, Russian oil and gas, through merchants in India and China, escaped the Western embargo and resold them all over the world, allowing Russia to make a lot of money in energy, so that he also has Sufficient financial resources will continue to fight in Ukraine next year, and whether nuclear weapons will be used in the end is still a variable. Second, in terms of risks across the Taiwan Strait, the US Congress has just approved by an overwhelming majority US$10 billion in military aid to Taiwan over the next five years. In addition, the new speaker of the US House of Representatives, Republican Majority Leader McCarthy, has made it clear that after he officially takes office in January next year, he will organize a larger congressional delegation to visit Taiwan. At the same time, it also claimed that it would consider launching a more severe sanctions policy against China, including re-opening the investigation into the origin of the new crown virus. From China’s point of view, these are challenges to the bottom line, and relevant countermeasures will definitely be taken, and the risks in the Taiwan Strait may further worsen.
The global economy is also facing the background of restructuring the entire supply chain. After decades of globalization, the world has entered a process of supply chain dismantling and re-integration. The big dismantling means that some links of the original supply chain have been interrupted, and some links have completely disappeared. This is especially true especially when the dismantling process is accompanied by conflicts and sanctions. This process of dismantling and reorganizing the supply chain is a process of overall increase in production costs. According to foreign media reports, Apple is speeding up the assembly and production of some products from China to other Asian countries such as India, Vietnam, Indonesia and other countries, and is even committed to reducing its dependence on assembly plants in Taiwan, including Its important partner Foxconn. This is related to the labor unrest and production shutdown triggered by the Zhengzhou epidemic, as well as the United States‘ determination to decouple from China’s technology. TSMC has moved its most cutting-edge chip production to Arizona, the United States. It can be seen that the rupture and reorganization of the global economic supply chain has just begun. In the midst of stormy rate hikes and geopolitical tensions, the deepest shock to the economic system is neither the demand side nor the supply side, but still the supply chain. With the rupture of the supply chain, the overall employment level will definitely be affected, and the final consumption level will also be affected. All kinds of pressures are continuously passed on to the real sector, so that the supply chain and the demand side will suddenly resonate and fall like a cliff. This is one of the biggest risks for China and the world next year. I estimate that the major dismantling and major reorganization of the supply chain will take about ten years to complete.
Finally, another key factor in investing, inflation in the United States, has structural reasons. First of all, the core of inflation is the problem of labor costs. At present, the increase in wages of American workers is still higher than the increase in consumption levels. In this case, wages will continue to push up prices. Sure enough, December’s US non-farm payrolls (mainly service sector employment) remained strong, especially as hourly wages continued to rise rapidly. The latest US producer price index inflation remains high. There is simply no room for the Fed to cut interest rates earlier. Core growth industries such as technology have begun laying off workers in preparation for the winter. Now that the monetary and fiscal policies of Western countries have been exhausted, persistent inflation and geopolitical conflicts limit the ability of Western governments to solve problems at the macro level. Developed countries, especially the United States, have a great chance of entering an economic recession next year. In addition, from the perspective of liquidity, next year’s economic recession is also related to the withdrawal of quantitative easing by the Federal Reserve and the European Central Bank. A few years ago, the Federal Reserve injected the same amount of money into the market, causing the prices of various assets in the global financial market to skyrocket, creating a big bubble. Now that central banks in the West are continuously withdrawing from the market, the impact of tightening market liquidity on financial assets cannot be underestimated, and the bubbles of various types of assets are bursting. These negative factors will have an even worse impact on Western economies.
Finally, judging from the valuation of asset prices, at least the major risk asset adjustments in the European and American financial markets should not be completely over. The correction in Western stocks this year has been modest. Compared with the historical average adjustment range, which is 50% from high point to low point, there is still a lot of room for downward adjustment, which shows that financial assets in the West are not cheap. The valuations of the stock markets in Hong Kong and mainland China have once fallen to a more attractive point. After rebounding, the scope for further rebound next year will be limited. In particular, investors at home and abroad are worried about factors such as geopolitics and changes in overall economic policies, which are the main factors that limit the long-term rise of China and Hong Kong stock markets. Due to the above-mentioned various negative factors at home and abroad, I predict that next year China’s real estate prices will experience a further collapse.
The performance of the global financial market in the past three years has been very strange. The performance of the financial market this year is exactly the opposite of that in 2020: in 2020, the epidemic has just begun to break out around the world, and all major financial assets have hit record highs. The US S&P index rose by 18.4%, gold rose by 24.1%; the US Treasury index also rose by 18.2%. This year, the global new crown pneumonia has come to an end, and most parts of the world have been opened. But the performance of the financial market this year has been disappointing: in the first 11 months of this year, the US S&P index fell by 17.1%, Hong Kong’s Hang Seng Index fell by 26%, and the worst was the US Treasury bond, which fell by 31.5%. The performance of the 60/40 stock bond standard portfolio of the asset allocation has been very disappointing this year, as both asset classes are down.
Past studies have found that only moderate inflation and a relatively loose monetary policy environment will be more beneficial to the stock market. In the current situation of high inflation in the United States, it is estimated that the Fed’s monetary policy will continue to be “hawkish”. Therefore, whether the future inflation trend in the West and the global economy will enter recession under high interest rate conditions, whether the Russia-Uzbekistan war will end smoothly, whether the Chinese economy will have a soft landing after the impact of the epidemic, and whether the geopolitical risks between China and the United States will be sustainable. Control is the key consideration in the current asset allocation. The financial market is always full of unpredictability, and asset allocation should be kept decentralized. But in an environment where inflation and interest rates are slowly peaking, and the global economy may enter a recession, I recommend choosing high-rated western bonds, and government bonds are the first choice among bonds. For stocks, it is only recommended to choose markets and industries with sufficient adjustments and attractive valuations. In addition, it is recommended to continue to increase the allocation of gold relatively.
Note: This article only represents the author’s personal opinion. Pu Yonghao is the founding partner of Burui Wealth Consulting, the vice chairman of the Hong Kong Chinese Finance Association, and the former Chief Investment Officer of UBS Asia Pacific
This article is edited by Xu Jin [email protected]