The Easy Part of 2023 Is Behind Us

Michael Grant

• By late summer, the easy part of “fixing inflation” gives way to the harder part. This may be the key driver of markets into autumn and determine whether we see a hard or soft landing in 2024.
• Disinflation momentum has been the key narrative, but the entry point for this trade was last October. We see a wide dispersion of possible outcomes for what comes next.
• Beyond summer, rising volatility seems inevitable as investors await the resolutions of key debates, including the one over Fed policy.

As we discussed in “A Very Different Decade Ahead,” there is a further mild upside for equities, but equities are not in a new bull market. The end of “free money” implies the investment landscape is being reconstituted. We anticipate a new set of winners and losers in coming years versus those that characterized the long era of excessive monetary accommodation.

Growth stocks can lead as interest rates stabilize but selectively for two reasons. First, the removal of excess liquidity by central banks will be extended. Second, corporate profitability for many has peaked structurally (with the reversal of globalization and quantitative easing). Across industries, Calamos Phineus Long/Short Fund’s positioning emphasizes quality and profitability within sensible valuation parameters. This style “wins” as long as investors believe a recession is only a matter of time.

• In Technology, we emphasize GARP quality, while avoiding names without valuation support. We have tactical positions in the semiconductor industry as investors wrestle to identify the winners and losers of an AI future. (See our post, “The AI Foreshock—Evaluating Potential Winners and Losers.”)
• Financials are an “Up Cycle” group, but investors are fixated on the inevitability of recession. We have reduced exposure materially in the past year. The profitability of banks is more in question today than in past decades due to normalized interest rates and, thus, higher funding costs and more competition for deposits.
• The US Consumer is in pole position globally, though the bigger story is the shift from goods to services. The latter is a long way from normalization. We favor a range of businesses that benefit from structural undersupply in air travel and sustained strength in consumer leisure.
• In Energy, structural underinvestment has been overshadowed by slower global growth and war-related inventory excesses. The key swing factor may now be Chinese economic growth—a dominant source of incremental demand. For China, the pandemic years have likely camouflaged the dawn of numerous structural headwinds.
• Consumer Staples are vulnerable to normalized rates and challenged to pass through cost inflation. We see capital rotating into other stable businesses with stronger pricing power like railroads, industrial gases and defense contractors.
• Valuations in Healthcare have been reset as the pandemic distortions are largely worked through. We look for opportunities to add.

Chair Powell has been tightening the screws of monetary policy and so far winning the battle to return markets to the promised land of Goldilocks. Equally important has been the story of economic resilience. Investors and the Fed alike no longer anticipate a US recession in the second half of 2023—contrary to consensus thinking in late 2022.

But we see the easy part of 2023 giving way to a murkier horizon this autumn. All of these key debates—the path of inflation, rising recession risk and Fed policy—will become less friendly for risk assets, reinforcing our view that investors should embrace a more tactical and cyclical approach to equity allocation, and to style and security selection.

CPLIX Positioning Outlook