If Inflation Is Sticky, Pricing Power Could Be the Difference
After peaking in 2022, inflation steadily declined through 2023 until progress slowed in early 2024. These near-term spikes are likely to delay the Federal Reserve’s cutting cycle, extending the “higher for longer” backdrop through the year.
While these stickier prints during the first few months of the year have been a source of uncertainty for markets, we believe investors should focus on the longer-term trajectory—which is downward. We do expect uneven progress to continue, which should support risk assets, including stocks. We think it’s prudent to lean toward profitable companies with strong pricing power—those able to pass inflationary pressures on to customers. We consider this attribute another indicator of quality that may boost some firms if inflation remains stubborn.
An Eventual Soft Landing: Good for Equities and Bonds
So far this year, US fixed-income markets have been painfully surrendering to a higher-for-longer reality. Treasury yields have reversed all of December’s moves and then some, as investors extend their timetables for eventual monetary easing.
Still, we believe the US economy can still stick a soft landing, which should support equity markets. The outlook for bonds is also bright. Yields are attractive, and once the Fed starts to ease and rates fall, bonds with more duration (interest-rate sensitivity) should fare well. They might also cushion against potential geopolitical shocks if regional tensions escalate.
Meanwhile, adding higher-yielding credit may provide attractive carry and added income alongside equities in a moderate-growth environment. Although credit spreads on US corporate bonds seem to be at the lower end of historical ranges, we still see compelling all-in yields. Also, issuers are increasingly backed by solid fundamentals: underlying quality has been gradually improving since the COVID-19 pandemic, thanks to better earnings, healthy balance sheets and the pandemic-induced default cycle that weeded out some weaker parts of the market.
US Elections: Anxiety High, Likely Market Impact Low
Investors might be feeling better about the economic outlook, but in many cases their concerns are shifting to potential fallout from the upcoming US elections. It’s natural to want to brace for the impact of a potentially divisive election cycle on markets, but our research suggests that the election reality has been less dramatic.
Equity returns during election years have typically been in line with historical averages (Display, left), although near-term volatility does tend to rise (Display, right), reinforcing the need to take an active approach that seeks sources of diversification.