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Unfortunately, the backdrop to this update remains the same as our previous market outlook, with our focus firmly on the ongoing tragedy in Ukraine. It’s a war that’s brought human misery and economic calamity for Russia and Ukraine, and continues to have far-reaching effects across the globe. Richard Dunbar, our Head of Multi-Asset Research, takes a closer look at how the conflict is affecting global growth, and how governments and central banks are striving to come up with solutions to increasing inflationary pressures.

How is the global economy looking?

There’s no denying that the outlook has become more precarious. The conflict has accelerated existing problems in many commodity markets, particularly energy and food. Whilst some of these pressures have alleviated over the past month, this has led to a further slowing of global growth and more inflationary pressures on these goods – also known as the cost-of-living crisis. We’re seeing inflation soar to its highest level in 40 years as mounting energy bills put millions of households under pressure – something we’re all too familiar with here in the UK.

Meanwhile social unrest has already flared up in a number of emerging market countries including India, Chile, Peru, Colombia, Ecuador, Argentina, Kazakhstan, Morocco, Sri Lanka, Pakistan and South Africa. Many of these countries already have weak government balance sheets as well as a range of political issues. And further protests around cost-of-living issues will make it very difficult for governments to push through the actions required to help the situation.

Plus, with sanctions on Russia likely to remain in place for the foreseeable future, disruption to supplies of key commodities is very likely to continue, which will continue to have a knock-on effect on inflation.

The combination of very low global economic growth and rampant inflation in the world’s major economies, at rates unseen since the oil crisis of the 1970s, have created a toxic combination that governments and central banks worldwide are struggling to deal with.

How are the central banks responding?

Central banks are under pressure to act even if the medicine that’s needed to help risks ending post-Covid economic recovery.

The US Federal Reserve (Fed) and many other central banks are busy playing catch up, having been wrong-footed by the strength and persistence of inflation so far this year. The Ukraine crisis has really amplified the increase in energy and other commodity prices, making it impossible to ignore just how far inflation is above target.

The Fed began its attempts at getting inflation under control by increasing interest rates in March, and it seems certain that more rate hikes are to come. At the latest meeting in mid-June, Fed officials approved the largest interest rate increase since 1994 and signalled it would continue lifting rates this year at the most rapid pace in decades as it races to slow the economy and fight inflation. This is a massive change in policy and has had a similar impact on market expectations.

The four stages of an economic cycle are expansion, peak, contraction, and trough. The lifespan of our current economic cycle will depend on the Fed’s ability to reduce inflation, without crashing the global economy – a task made more difficult by heightened political risks. This will need to be a careful balancing act as the risk of an accident is high.

However, not all central banks are singing from the same hymn sheet as the Fed. For example, we’re seeing a much more accommodative policy in China. At abrdn though, we remain to be convinced that any policy adjustments will be enough to fully compensate for China’s ongoing strains within the property sector and the ‘zero-Covid’ strategy which has held back Chinese economic activity.

More market volatility is likely

It has, to put it mildly, been a difficult few months and market volatility is expected to continue. Both equity and bond markets have experienced significant declines in this environment of higher interest rates and a worsening geopolitical landscape.

In equity markets, investors have, in particular, reappraised the prospects for some areas of the technology sector and the prices they’re willing to pay for this. We are also seeing increasing concerns around costs and supply chain disruptions.

In bond markets, investors have been quick to price in the more cautious outlooks from the central bankers. In addition, as recession becomes more and more likely, investors have also become more careful about extending credit to lower-quality companies.

But slightly more confidence around Covid

On a more positive note, we’re cautiously optimistic when it comes to Covid, as it feels like significant parts of the world are starting to put it behind them.

However, the recent lockdowns in China show us that not everywhere is in the same position. This is another reminder, if any was needed, that when it comes to Covid, the world is only as strong as its weakest link.

What’s next for investors?

There’s no doubt that the investment path ahead is looking increasingly difficult to navigate. However, as ever, markets will provide opportunities for those willing to do their homework and invest for the long term. While global markets are likely to remain volatile, it’s more important than ever to remain calm and take a long-term view when it comes to your investments.

We believe having a well-diversified portfolio, where your money is spread across a variety of investment from different parts of the world, can help you aim for the right balance between risk and return. It can also help cope with whatever’s happening in the economy and markets.

If you’re not sure how market and economic events may affect your investments, consider getting financial advice. If you don’t already have an adviser, you can book a free, no-obligation call with one of our financial planners.

The information in this article should not be regarded as financial advice. Please remember that the value of investments can go down as well as up and may be worth less than was paid in. Information is based on abrdn’s understanding in July 2022.