• Watching Wages

• Rate Hikes to Weigh on Economy

• Portfolio Positioning for Balance

Investors tend to look forward, and 2023 may be a year when they cast their eyes over the upcoming economic downside to favor a future of lower inflation and end to Central Bank rate hikes and the beginning of recovery in China. Yet there's plenty of mist in between to cloud the view. Let's take a closer look.

The most recent unemployment report in the US has created some of that mist of uncertainty. Hiring remains strong in December while unemployment fell, reinforcing a tight labor market. Importantly, wage growth slowed in December and was revised lower for November, but we think it remains elevated enough to support inflation.

So even if inflation trends down-- and we think it will-- the tight labor market may prevent inflation from falling enough for the Federal Reserve to declare victory, making wage growth the most closely watched economic metric for investors. A leveling off of inflation above Central Bank comfort levels could disappoint investors expecting Fed rate cuts late this year. We agree with the market's estimate that the Fed will halt rate hikes at roughly 5%, about 75 basis points above the current rate. We see the European Central Bank raising rates somewhat less than suggested in their surprisingly hawkish statement last month.

Central Bank rate hikes are weighing down the global economy. We expect a recession in Europe, though notably warmer winter is bringing down energy costs. In the US, we see above 50/50 odds of recession. China's economic reopening will likely experience unevenness and setbacks and secular headwinds remain considerable. But a 2023 recovery in China could move some long-term investor concerns to the back burner this year opening a door for a recovery in short-term investor sentiment.

The tactical asset allocation and our global policy model, which guides our multi-asset portfolios, reflects the balance between interest rate uncertainty and the potential for investors to look past the weak economy. This month, we reduced our underweight to emerging market equities to reflect the upside economic opportunity associated with the winding down of China's strict pandemic policies, though longer term concerns remain. We are neutral developed market equities as we expect improving investor sentiment to offset some of the weaker economic picture.