Aegon AM: Over-committing to a hard or soft landing could expose investors to substantial risks in 2024

Aegon AM: Over-committing to a hard or soft landing could expose investors to substantial risks in 2024

28 november 2023

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Over-committing to a hard or soft landing could expose investors to substantial risks in 2024. Investors should look to banking credit conditions for signals on the path of economic progress in the year ahead.

We have seen the last innings of this very unusual and aggressive interest rate hiking cycle and may well have seen peak rates in most major economies now. It is hard to imagine base rates will go up any further from here.

However, Bank lending surveys in the US and EU show continued tightening of credit conditions and reduced corporate and consumer loan demand. This indicates the full impact of monetary tightening has yet to fully travel through the system, so we can expect reduced borrowing to continue into 2024, negatively impacting economic growth.

The rapid pace of credit destruction is only partially being mitigated by an 'abundance of private credit' and a 'benign refinancing wall' – but this, he believes, is likely not to last much longer. 'Both are likely to prove transient and are insufficient to keep economies humming at or above trend growth.'

Although bank lending surveys are useful indicators of credit conditions, trying to predict whether major economies are in for hard or soft landings is tricky and could lead investors to allocate too heavily one way or another.

In a soft-landing scenario, growth would be relatively modest, but not negative, while inflation would likely be contained at around current levels and/or still modestly declining. In this case, we assume there would be minimal room for interest rate cuts in the US, and probably only towards the tail end of 2024.

However, in a hard-landing scenario, growth would be negative, demand would fall and with it employment as well as inflation. In this environment, government bonds would likely perform best, as central banks would be forced to ease materially. 

An allocation to fixed income offers arguably the best risk-adjusted return potential that it has had for some time with these scenarios in mind. The asset class currently offers access to historically elevated levels of yield, without over-committing to a binary outcome. Weighing the balance of probabilities from a risk and reward perspective, we find fixed income to be as attractive as it has been in well over a decade.

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