Investment themes in 2023 – what to watch

All information is correct as at 31 December 2022 unless otherwise stated.

As 2022 was drawing to a close, the FTSE 100, the UK’s index of largest companies was trading near where it started the year – in stark contrast to the economic outlook for the UK. Of course, the FTSE 100 isn’t a reflection of the UK economy, with around 70% of its revenues from overseas, making it a better reflection of the global economy.

The FTSE’s steady showing last year, while other markets like the US’s S&P 500 fell 20%, was thanks in large part to oil and gas companies rallying with rising energy prices. Royal Dutch Shell and BP, along with the likes of HSBC and GlaxoSmithKline make up almost 30% of the index, meaning movements in these companies’ share prices will have a far greater impact.

But even an international revenue stream won’t protect UK stocks from the impact of a recession. The support from overseas markets is also reducing as the world’s most important central bank, the US Federal Reserve (Fed), clamps down on inflation. As such, we could well see UK stocks slide in the first half of 2023, with high levels of volatility.

There could be some respite in the second half of the year as inflation shakes out, and the government steps in to support an ailing economy, but it is unlikely to be a stellar year for UK shares.

Keep a close eye on US earnings

While the energy-heavy FTSE 100 held up in 2022, the same can’t be said for the US. The fall in tech stocks at the start of the year hurt, with further headwinds from Russia’s war in Ukraine leading. The tech-heavy Nasdaq index ended 2022 a third lower than at the start of the year, illustrating just how far the tech giants fell from the heady heights reached in 2021.

A late rally in the US stock market was driven by hopes that the Fed is close to slowing or even stopping interest rate hikes. This in turn is a product of hope that inflation has peaked in the world’s biggest economy.

But if the arithmetic of developed markets is inflation and interest rates, the third equally important element is earnings forecasts. Corporate earnings have been revised lower for 2023, with some expectation that we’ll get no US earnings growth this year.

That said, it’s worth noting that pockets of the US market are still trading on historically low valuations – like the tech sector, which could mean a re-rating in the near term.

Value versus growth

Last year we witnessed the long anticipated ‘regime change’ in stock markets with value stocks finally having their moment in the sun, after a decade of growth stocks leading the way.

Growth stocks are generally understood to be those stocks that can grow their earnings faster than the market average, independently of how the economy’s doing. Value stocks are essentially those that score well in terms of dividend yield or assets versus market value. Value credentials indicate a company has been overlooked in the past or is just out of favour with investors.

In 2022, we saw tech and other growth-oriented companies sell off in dramatic fashion, while the so-called ‘old economy’ companies, like the oil majors and mining stocks, powered ahead. The UK, for years a pariah stock market, suddenly became a ‘safe’ place to see out the storm, while the US came off the boil.

So, what will 2023 deliver for the two investment styles?

Global growth is slowing, and this is typically bad news for value. But there’s still value in value and investors could find opportunities if they look through poor short-term growth prospects and position themselves for an eventual recovery.

US dollar versus the pound

As stock markets focus on the so-called ‘Fed pivot’ – the hope that the US central bank slows rate hikes off the back of lower inflation – the world’s most important currency, the US dollar, has sunk

Meanwhile, on this side of the pond, prospects look brighter for the pound now the UK seems to have finally found some political stability.

But as ever, tread carefully – currencies are one of the most unpredictable things in investing.

It’s also worth noting that if the pound does rally, this will hurt those internationally facing FTSE 100 stocks, which will see the value of overseas revenues fall.

Where next for the oil price and commodities?

Needless to say, 2022 was an eventful year for oil and gas prices. Russia’s war in Ukraine caused a supply shock, pushing up the price of energy across the globe.

While the war in Ukraine sadly rages on, energy prices have come down in recent months as concerns about waning global growth have escalated, and with it created an expectation of slowing demand.

However, the reopening of China as the government relaxes its zero-Covid policy, has the potential to push the oil price higher – as well as other commodities and materials.

Emerging markets – keep an eye on interest rates

Interest rates have risen around the world as central banks try to tame inflation. But rate rises in emerging markets happened first and have gone much higher. With signs that inflation’s now peaking, we see greater scope for rate cuts in the emerging world.

This could help support outperformance by emerging equity and bond markets. China is the wildcard with scope for positive surprises as the economy opens up offset by rising political concerns.

As ever, emerging markets shouldn’t be seen as a homogenous group. While Asian and emerging countries are often lumped together, they can behave quite differently. The performance of these markets in 2022 shows how this part of the world can be home to both the best and worst performing stock markets at any one time. You can read more on the outlook for these regions.

This article isn’t personal advice. All investments and any income they produce can fall as well as rise in value, so you could get back less than you invest. If you’re not sure what’s right for you, ask for financial advice.

Past performance isn't a guide to the future. Source: Lipper IM from 31/12/2017 to 31/12/2022, IA sector performance.

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