Extremely high inflation is jeopardizing four decades of central-bank credibility, and aggressive monetary tightening featuring jumbo-sized rate hikes has triggered broad-based declines in asset prices. Meanwhile, the global economy is slowing, and the path forward for the economy and markets hinges largely on whether/when price stability will be restored.

Economy

• Challenges to the global economy include aggressive central-bank rate hikes, extremely high inflation and an energy crisis in Europe stemming from geopolitical tensions. Other risks include China’s troubled real-estate market, U.S. politics and the lingering effects of the pandemic.
• Although there are risks that inflation could reassert itself if the pandemic flares or geopolitical tensions intensify, we anticipate substantially lower inflation in 2023 as the major contributors to inflation have all begun to turn.
• We estimate the odds of recession at 70% in North America, with an even greater likelihood in the U.K and Eurozone.
• For the developed world, we now forecast moderate economic growth of 2.3% in 2022, followed by just 0.3% in 2023.

RBC GAM GDP forecast for developed markets

Note: As of September 1, 2022. Source: RBC GAM

Fixed Income

• Rapidly rising interest rates have caused further declines in global government-bond prices, but we believe that any further losses will likely be limited.
• With the massive increase in bond yields so far this year, the acute valuation risk that existed across major developed-world sovereign-bond markets has been greatly alleviated.
• Assuming that the inflation spike subsides as we forecast, our model suggests the U.S. 10-year yield should be positioned near 3.5% in five years. We therefore think that bond investors are more likely to keep their coupons and that the risk of fixed-income capital losses has meaningfully diminished since the start of the year.

10-year government bond yields

Note: As of August 31, 2022. Source: RBC GAM

Equity Markets

• Stocks encountered significant volatility during the quarter as the fluctuating outlook for interest rates and inflation impacted valuations and a more challenging outlook for earnings came into view.
• As a result of the worldwide drawdown in stocks, the excess valuation that existed in our composite of global equity markets has been erased. U.S. equities remain slightly above our estimate of fair value, but stocks in other regions look more appealing.
• Although stocks are more reasonably priced, the focus is shifting to corporate profits which remain well above their long-term trend and may soon encounter headwinds from slowing economic growth, especially if recession were to materialize.

Global stock market composite

Equity-market indexes relative to equilibrium

Note: As of August 31, 2022. GDP-weighted average of RBC GAM fair value models for a variety of countries. Fair value estimates are for illustrative purposes only. Corrections are always a possibility and valuations will not limit the risk of damage from systemic shocks. It is not possible to invest directly in an unmanaged index. Source: RBC GAM