Be Not Afraid of Slower Growth

As we begin preparing for Outlook 2022, Citi analysts expect growth to endure. The most likely scenario is that global EPS growth rates could average 7%-8% over the next two years. The period of COVID-19 disruptions and stimulus could give way to a “new normal”, with global GDP gains ongoing, but decelerating. Supply shortages may diminish as consumer goods spending moderates. Citi analysts expect COVID-19  to abate as well, with new social practices, vaccines and treatments making it manageable.

Ironically, the 28% price rise for global equities over the past 12 months is a source of risk for investors. With modest upward pressure in yields, diminished Fed bond purchases, slowing inflation and sustained economic growth, investors may want to change expectations and portfolios. Global equities, with dividends and price appreciation, could generate mid to high single digits returns for coming year. But for bond investors, the yield environment points to another year of negative real returns for global bondholders, but less negative than in 2021.

Global growth may exceed 5.5% in 2021 and fall below 4.0% in 2022. This may “feel much slower” after the unusually large 45% surge in US and global corporate profits in 2021. This deceleration assumes a broadening services expansion and a strong near-term outlook for goods production and trade driven by inventory rebuilding.

China’s deliberate “multi-policy” tightening could yield its slowest growth rate in modern history aside from the initial COVID-19 shock. However, some temporary elements of the Chinese slowdown – such as energy supply constraints – may see relief.

China’s slowdown to sub-4% growth near-term could spill over to other regions. As a result, Citi analysts have reduced our global equity overweights, with cuts to Asia, Europe and some scaling back in the US. Nevertheless, Citi analysts have retained our modest equity overweight in China. This may sound odd since China is one of the key sources of potential cyclical weakness in the coming couple of quarters. The reason Citi analysts are staying positive on China is that its growth might be rising in 2022, while others slow. And its policy might be easing in 2022, while others tighten.

With US bond markets now pricing in 4-5 rate hikes by the end of 2023, intermediate duration US fixed income valuations have improved. Citi analysts have raised our allocation to intermediate Treasuries, investment grade US corporate debt and municipal bonds for US-taxed investors, leaving the fixed income and cash allocation mildly underweight.