Thoughts on recent market volatility and implications for investors from Head of Franklin Templeton Institute, Stephen Dover.
The recent volatility across capital markets is challenging established norms around how the path forward may unfold. Here are some key thoughts:
- Inflation is rising globally, but the pace of acceleration depends on where you are. The US consumer price index (CPI) has risen by over 8% in the past year, similar to Europe’s 7.4% increase. These are the highest levels since the early 1980s. China sits at approximately 2.1%, which has been increasing slowly but still near multi-decade lows.1
- Gross domestic product (GDP) growth is expected to decelerate globally, with emerging markets recovering before developed markets. The International Monetary Fund (IMF) forecasts US GDP growth to slow in 2022 relative to 2021, and then slow again in 2023 relative to 2022.2 China is expected to also slow in 2022 but then re-accelerate in 2023. These two economies account for 42% of total global GDP.3
- Expectations for future inflation are leading to diverging central bank action globally. In the United States, higher retail gasoline prices have historically led to higher expectations of inflation, which leads to higher actual inflation. The Federal Reserve is on a path of monetary tightening. Meanwhile, China’s zero-COVID policy has impacted demand, which has muted inflation. This has allowed for China’s policymakers to have flexibility in maintaining or lower rates.
- Fears of recession are rising. Even with positive factors such as elevated consumer savings, rising wages across sectors and increased corporate capital spending, capital markets are increasingly concerned about slowing economic growth globally.
- Volatility has increased at an accelerated rate in traditionally safer fixed income sectors. Historically, government bonds have a negative correlation to stocks, providing a diversification benefit in volatile times such as these.4 This year, fixed income has been as or more volatile than equities. Globally, stocks are down roughly 6% year-to-date, while bonds are down approximately 13%.5 Longer-duration fixed income and growth stocks have seen the largest declines.
- Maintain strategic asset allocation. The current volatility may be an opportunity to reallocate your portfolio holdings toward your long-term allocation targets. Over the longer term, this strategy has had the effect of helping to “buy low and sell high.”
- Higher volatility can also provide opportunity to reset allocations. Going forward, achieving a diversified portfolio for individuals may include both a wider array of alternative assets and a more creative re-allocation of traditional assets. In addition, we believe adjusting exposure to forces such as shifting geopolitics, changing demographics and accelerating innovation will likely have an outsized impact on portfolio returns over the next decade and beyond.