Pacific Investment Management Company, also known as PIMCO, believes developed economies will see a “modest recession” in 2023 as central banks ratchet up their fight against inflation. Of course, PIMCO and others discounted the possibility of a full-blown banking crisis unfolding as early as March with the collapses of Silvergate, Silicon Valley Bank, Signature Bank, First Republic, and Credit Suisse. Credit default swaps suggest investors are growing more concerned about bank failures in Europe and North America.
Against this backdrop, PIMCO has identified three prevailing investment themes for the rest of 2023. Regarding portfolio allocation, the investment manager believes bonds are alluring again thanks to improved yields and lower expected volatility.
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According to PIMCO, a moderation in U.S. used car and global energy prices should see headline CPI continue to moderate ‘relatively quickly.’ The investment manager believes CPI could fall to 4% annually in relatively short order, though a drop in the Federal Reserve’s preferred target range of around 2% is likely to prove much harder. Additionally, China’s economic reopening is also expected to ease lingering supply chain disruptions without impacting global goods inflation.
Economists believe the European Central Bank (ECB) will hold interest rates below 4% given the Eurozone is likely approaching recession. According to PIMCO, the Bank of England and Bank of Canada will likely target rates somewhere between the ECB and Fed.
All this to say is the remainder of 2023 will likely see central banks continue to hold interest rates in ‘restrictive territory’ to bring inflation down further.
In practical terms, U.S. unemployment may need to increase to around 5% from the current 3.6% level to have a meaningful impact on inflation. Of course, rising unemployment increases the risk of recession, which most of America’s business economists expect to occur later this year.
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