By Alan Colquhoun

As we enter 2024, it is clear that economic cooling is in full swing in the Eurozone.

We don’t see any need for further policy tightening as credit growth has slowed sharply, which should help in the disinflation process.

Looking to the first few months of the year, an ongoing worry is energy prices, which might lead to some upside risks to headline inflation in the short term, but not enough to interfere with the trend in underlying inflation, which continues to move towards the European Central Bank’s (ECB) 2% target.

However, the EBC Governing Council is likely to take a pragmatic view on any short-term impulses from the energy market - it’s too soon to call victory - given that inflation rates remain elevated.

In times of raised economic or geopolitical risk, safe-haven currencies such as the Swiss franc and the Japanese yen tend to benefit.

Since the flare-up of the conflict in the Middle East, where uncertainty has caused other safe-haven assets such as gold to jump, this has remained the case particularly for the Swiss franc, which appreciated to levels beyond EUR/CHF 0.95. Its recent strength is likely attributable not only to safe-haven flows due to the crisis, but also to Eurozone growth risks, though it appears to be less supported by economic drivers.

Closer to home, sentiment in the UK economy has improved as trust in fiscal responsibility has recovered from last year’s turmoil and the economy has proved to be resilient. Having decided to keep interest rates stable, the Bank of England (BoE) remains more concerned about persistent inflationary pressure than already considering a rate cut similar to the US Federal Reserve or ECB.

The stickiness of UK inflation suggests that it will reduce towards its target in a more protracted manner, meaning the BoE will hold its peak policy rate for longer than its central bank peers. We continue to expect the BoE’s first rate cut in September 2024, later than our expectations for the US in May and the EU in April. Although a rising interest rate differential in favour of the UK will be a tailwind for large parts of 2024, the weak macroeconomic backdrop may prevent a stronger pound.

Despite monetary headwinds, the US economy remains surprisingly resilient, and in its December meeting, the Federal Reserve signalled a crucial pivot. Along with the decision to continue to hold rates, committee members pencilled in at least three rate cuts in 2024 at assumed 0.25% increments.

While that’s less than market pricing of four, it is more aggressive than officials had previously indicated, and markets had widely anticipated the decision to stay put, which could end a cycle that has seen 11 hikes. With the Federal Reserve pivoting to a less aggressive stance on rates, a more benign fundamental backdrop seems likely as we head into an election year for the US.

For investors, fundamentals appear healthy as corporate profits hit an inflection point towards the end of 2023, and there are more signs of a broad demand for equities and a sustainable bull market. The S&P 500 and the Nasdaq Composite are on track to record multiple weeks of consecutive gains so one might be inclined to call for a peak, but historically these strong consecutive gains have been signs of a broad demand.

As for bonds, the balance of risk appears to favour downside on yields, considering the ample margin of safety that had built up over the last two years. Overall, these factors provide a benign backdrop for multi-asset investors going into 2024.

Alan Colquhoun is a relationship manager at Julius Baer

alan.colquhoun@juliusbaer.com