The SCB CIO highlights a global trend of slowing inflation. The Fed is signaling a reduced probability of further interest rate hikes due to a slowdown in the US economy. The Fed is expected to maintain interest rates at 5.50% for the rest of the year. Conversely, the European Central Bank and the UK plan to raise interest rates twice, reaching 4% and 6% respectively. China's economic recovery has been slower than anticipated, leading to discussions about potential stimulus measures in 2H23. Investors are recommended to hold onto US stocks while gradually divesting from tech stocks. Investors may want to consider shifting their focus towards defensive stocks and gradually reducing exposure to European stocks in response to prolonged inflation and rising interest rates. For stocks with attractive valuations, Chinese A-shares and SET are worth considering for a long-term portfolio position.
Dr. Kampon Adireksombat, First Senior Vice President and Team Head of the SCB Chief Investment Office at Siam Commercial Bank, has recently revealed the emergence of disinflation in several countries. Notably, inflation in Developed markets has been slowing down at a less rapid pace compared to Emerging markets, primarily due to the higher inflation observed in the service sector. During the second quarter, headline inflation in many countries worldwide experienced a significant deceleration. For instance, the United States saw a decline from its recent peak of 9.1% to 3% in July, while Thailand's inflation dropped from a recent peak of 7.9% to 0.2% during the same period. However, that core inflation, particularly in Developed countries, is still gradually decelerating but remains at elevated levels. This is mainly attributed to the sustained high inflation in the services sector, driven by the sector's robust recovery. In July, core inflation in the US stood at 4.8%, down from a recent peak of 6.6%, while Thailand's core inflation was at 1.3%, down from a recent peak of 3.2%.
The Federal Reserve has indicated its intention to keep high interest rates to tackle high inflation rates for the rest of the year. Although the US economy is experiencing a slowdown, the likelihood of avoiding a recession is higher. In our view, inflation has decelerated, but it is expected to remain above the 2% target in the period of 2023-24. While the US economy is slowing significantly, its favorable labor market and purchasing power increase the chances of averting a recession. Given the prevailing inflation and economic trends, the probability of a rate cut in 2023 is minimal. SCB CIO maintains its view that the Fed will retain its interest rate at 5.50% for the remainder of the year. Additionally, it appears that central banks in various countries are likely to follow the Fed's lead and halt their interest rate hikes, with the exception of the European Central Bank and the UK, which plan to raise interest rates two more times, reaching 4% and 5.75% respectively.
As per SCB CIO's analysis, historical data reveals the durations of the last three Fed halts during periods of high interest rates and inflation: 5 months in 1995, 8 months in 2000-01, and 15 months in 2006-07. The observations from these periods are: 1) In the six months following the cessation of interest rates, US 10-year bond yields experienced significant drops (ranging from 49 to 119 basis points); 2) The US dollar index also declined, leading to the appreciation of the baht/US dollar exchange rate (except in 2001 during the dot com crisis); and 3) Generally, the US stock market showed a rise in the six months after interest rates were halted, except for the 2001 dot com crisis period.
The recent surge in bond yields is viewed as a temporary factor. It is anticipated to decline once inflation exhibits a continuous slowdown, and clear signs of the Fed's halt in interest rates emerge. SCB CIO considers this an opportune time to accumulate government bonds in portfolios to manage the risks associated with a potential recession or economic slowdown. Expectations are that declining inflation trends, combined with the Fed's decision to halt interest rates, will lead to a gradual decrease in medium- to long-term Treasury yields over the next 6-12 months. Despite the reduced risk of a recession, the US and global economies are still likely to experience a slowdown in the near future.
China's economic recovery in 2Q23 fell below expectations, prompting the government to consider implementing targeted stimulus measures in the latter half of the year. A concerning risk factor is the significant amount of local government debt maturing in August-September. Despite the low base factor, the Chinese economy only grew by 6.3% YoY in Q2/2023, mainly driven by the restaurant and hotel services sector and the real estate sector. The overall growth for the first half of the year was just 5.4%, indicating a slower-than-expected recovery. This has put added pressure on the government to employ specific monetary and fiscal policies to stimulate economic growth. Looking ahead, several risk factors persist for the rest of the year. Apart from the challenges in the economic recovery, there is also the matter of local government debt due in August-September, accounting for more than 24% of the total amount for the year 2023. This situation may lead the government to seek assistance from commercial banks and state banks to facilitate the purchase of these bonds.
Equity markets in developed countries, especially in the US and Europe, are deemed expensive driven by a significant rise in the P/E rerating. In light of these developments, SCB CIO maintains a Neutral recommendation on US stocks (by gradually selling tech stocks and shifting towards defensive stocks). In the case of European stocks, the recommendation is Slightly Negative due to concerns over prolonged inflation and ongoing increases in interest rates. As for stocks in countries still facing risk factors, such as China, Thailand, and Vietnam, SCB CIO advises accumulating Chinese A-shares due to the potential for targeted economic stimulus measures in the second half of the year, and Thai stocks, as political and policy uncertainties in the country begin to decrease. However, there are some cautionary notes on Chinese H-shares as SCB CIO has revised its view to Neutral on these stocks due to concerns about the impact of interest rate cuts and local government bond purchases on banking stocks, which constitute 18% of the total market capitalization. Additionally, there are concerns about tech stocks, representing 37% of the total market capitalization, due to the high risk associated with the ongoing tech war.
Source: Siam Commercial Bank