(Bloomberg) -- Bob Michele kicked off his Wall Street career during the stagflation crisis of the early 1980s.
More than four decades later, JPMorgan Asset Management’s chief investment officer says the economic outlook today looks even worse -- with a US recession now looking more likely than a soft landing.
Central banks are a long way from reversing the most flagrant excesses of the easy-money era while inflation looks ever-more entrenched, per Michele.
His pessimism is reflected in an historically bad first half of a year that’s just drawn to a close. Stocks and bonds around the world combined have fallen by the most on record, according to Bloomberg data going back to 1990, with $8 trillion wiped off the S&P 500 alone.
“This current period is no doubt the most challenging in my career,” Michele said in an interview. “You are stuck with a lot of liquidity in the system and rates that look ridiculously low relative to the levels of growth and inflation that we are seeing and where employment is.”
With books now closed, the Nasdaq 100 has fallen nearly 30% in the first half while the MSCI World Index has shed more than 20%.
There have been few safe spaces while sanguine predictions heading into the year have misfired. The 10-year yield, a key benchmark for mortgages, corporate debt and the valuation of equities, has more than doubled this year from 1.5% to a recent high of around 3.5%, a level last seen in 2011. In December, economists saw the US 10-year Treasury yield hitting 2% by the end of 2022.
“What surprised markets was inflation and it has been the driver year to date,” said Erin Browne, a fund manager at Pacific Investment Management Co.
What’s more, the slump in cryptocurrencies, like Bitcoin to Ethereum, has wiped out trillions in value combined from once high-flying digital tokens -- an asset class almost absent in past crises.
“Many people have been caught up in the crypto craze,” Mark Mobius, partner and co-founder of Mobius Capital Partners, said in an interview. “This is creating a real problem in the financial market because it’s having a very big impact on sentiment. It’s a very unusual and challenging situation.”
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Commodities were the only outperformers as the Russia-Ukraine war hit supply.
The question now is whether dip buyers will be rewarded as valuations plunge -- or if a brewing economic downturn and supply-side-driven price pressures will intensify the cross-asset selloff.
Stock strategists are still seemingly bullish. Oppenheimer’s John Stoltzfus sees the S&P 500 ending 2022 at 5,330, requiring a roughly 40% rally in the next six months. A handful of others, including JPMorgan and Credit Suisse Group AG, have targets that require the index to rebound at least 30% to be met. Wall Street strategists, on average, see the S&P 500 gaining more than 20% in the latest Bloomberg survey.
Nonetheless there’s likely to be less lasting damage inflicted by any inflation-driven recession than in 2008’s credit crisis, which sparked a profit decline of 57%, Morgan Stanley Wealth Management’s chief investment officer Lisa Shalett wrote in a note this week.
But if Michele is right about the dim prospects for a soft landing, risk assets like stocks and credit could do even worse.
Investors have already yanked more than $6.7 billion from the iShares iBoxx High Yield Corporate Bond ETF over the last six months, the biggest semi-annual outflows since its 2007 inception, according to Bloomberg data.
The bond market in particular is struggling to decide what to worry about more: high inflation, or emerging recession fears. US Treasuries have rallied in recent days amid recession fears, bringing down 10-year yields to near 3%.
Michele, who’s endured every rout from Black Monday and the dot-com crash to the 2008 crisis, remains skeptical of the signals in fixed income that price pressures are ebbing. Unlike some peers, he’s staying short on duration in his bond portfolios and isn’t ready to give up his guard on inflation.
“We had gone through recessions, deep and shallow, and we recovered. What we are learning is that high inflation expectations when they are entrenched can become destructive,” he said. “And the central banks now have to scramble to try to get that out of system while trying to engineer a soft landing. Stagflation and recession look more likely to us than soft-landing.”
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