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How are banks and the financial services sector likely to fare in 2024? What will the economy look like this year? What will the impact of the upcoming elections be on regulation and the markets? Solita Marcelli, Chief Investment Officer Americas, UBS Global Wealth Management, sits down with American Banker Editor-in-Chief Chana Schoenberger to preview the year's developments and outlook.
Transcript:
Chana Schoenberger:
Hi, I'm Chana Schoenberger. I'm the editor-in-Chief of American Banker, and I have with me here today in the Leaders Forum, Solita Marcelli, who is the Chief Investment Officer for the Americas at UBS Global Wealth Management. Welcome.
Solita Marcelli:
Thank you. It's great to be with you.
Chana Schoenberger:
So just start off, tell us about your career. How did you get where you are today?
Solita Marcelli:
Of course. So I'll say that probably my journey started quite far from here. I grew up in Istanbul, Turkey, and at that time if you told me I would be a chief investment officer based in New York, I probably wouldn't have believed you, even though I always dreamt about coming to us. Probably at the time, the closest thing to it was the grand opening of McDonald's when I was in second grade and watching a lot of American movies. But I have to say I did spend a majority of my teenage years trying to convince my parents that they should send me to the U.S. for college, and then when they gave in, that was my entryway. And I always think of that as the first career milestone. But I was after college, immediately I went to Wall Street to equity research covering technology companies during the dotcom bubble.
And Chana, that started kind of a trend for me because it turns out that every time I start a new role, it's right before a major crisis hits. So I cover technology during the dotcom bubble's burst. But I have to say in each case it has been a blessing in disguise because of course you learn so much when you are doing something in the eye of the storm. Then after that, in business school I learned about wealth management, which I thought was fascinating. I landed at J.P. Morgan private bank in fixed income, mostly investments, not too far before the global financial crisis, I spent about a decade and a half there. Majority of the time I ran the global fixed income currency commodity business. And when I was ready for a new challenge, UBS called, and I've been there ever since. So four years I've been the Chief Investment Officer in wealth management, and for the last year I've also been responsible for our investment solution business.
So effectively being able to influence a CIO led entire investment value chain from start to finish thought leadership, asset allocation, portfolio management, but also the whole product suite so that we are able to implement our views properly and provide integrated wealth management including alternatives and financial planning, insurance, annuity and all of that. And maybe before I finish, I should say I love being in wealth management. I find that helping our advisors and clients I think makes my role a lot more meaningful. I've always liked being in a dynamic environment, being in the markets because it changes every day and keeps you intellectually honest. But I really do enjoy the complexity of running a business from end-to-end and developing and leading a team. So that's my career so far in a nutshell.
Chana Schoenberger:
So if you always switch jobs right before a crisis happens, you're not planning to do that now, right? Get promoted or anything?
Solita Marcelli:
I am staying put.
Chana Schoenberger:
Good, okay. We don't need another crisis. It's been quite a year. So before we talk about your outlook for 2024, let's talk about 2023. So what happened this year?
Solita Marcelli:
Okay, so this is a great question because the recession that was long waited for never happened, right? And I think it's important not so much to point fingers and we always like to reflect at the end of a year, but I think understanding is has also implications to get a good sense of what comes next. And I think it boils down to really three things. Number one is monetary policy actually has not been all that restrictive most of the year. And I know that sounds crazy because feds started hiking March of 2022, hacked a cumulative 500 basis points or so. But it wasn't until the March of this year, 2023 that the real Fed funds rates turned positive. So it wasn't restrictive all this time. And the second I think is the structural changes in the economy that happened over time, I think made it much less recession, recession prone and cyclical.
Clearly we're in this knowledge-based service economy, we have seen a shift towards that. So it doesn't get impacted as much from the inventory cycle and energy costs. In other words, the expansion that gets prolonged and prolonged. And the last I think that I think was an awakening is that the private sector has been in pretty good shape. Consumer spending has helped the economy chug along, but the data around the consumer has also been quite noisy because for most of the year the narrative has been, well, there was all these $2 trillion of pandemic related savings, but it's getting used up, it's going to dry up. And a couple months ago you have a revision change in methodology. Well, it turns out a trillion is left after all. So when you put it all together, why is it important? It's important because I think maybe we shouldn't expect a standard type of recession in an unorthodox cycle. We've already seen mild contraction in manufacturing, which is now recovering. So maybe what it's going to be is instead rolling recessions across different sectors rather than one big one.
Chana Schoenberger:
Okay. So how did everybody get this so wrong?
Solita Marcelli:
Well, I have to say if I go back and look at the data at the time, I'm not sure if we would have had that much of a different approach because it wasn't about not having a robust analysis. But it was, like I said, the consumer spending really surprised the strength of the consumer in the face of these hikes. Really surprised. I think a lot of it is, like I said, the labor market has done really well and inflation has come down pretty, even though that was our view, I think the facts on the ground at the time did suggest that it was going to be a slower growth.
Chana Schoenberger:
The inflation question is so interesting because as a New York is obviously not representative of the country, and inflation here has been a lot more, especially in consumer categories. I think one of the things that a lot of people will say about return to the office for instance, is that lunches are a lot more expensive than they used to be.
Solita Marcelli:
Yes. And Ubers are more expensive.
Chana Schoenberger:
Ubers are more expensive. Yes. Everything seems to be more expensive. It's hard to get lunch without spending $11. I remember when $5 for an office lunch was considered a lot.
Solita Marcelli:
Yes, you're absolutely right, but I have to say, we need to put it in context because also the net worth of consumers on average when you look at it, has gone up about 40% between 2019 and 2022. And the inflation question is an important one because maybe we'll talk about it when we discuss more in detail about the view on the economy. But when I look at next year, I actually feel reasonably comfortable that the inflation can come closer to the Fed's targets. You have maybe three factors to think about. One is for a long time we talk about the vacancy. For every one person that was looking for a job, there were two job openings. That number has come down. Now it's a little over 1.3. You also have the wage growth, which is still high. But as the economy slows, I think we're going to see a bit of a moderation from that perspective as well. And then the last piece is owners equivalent rent. You mentioned about rents or the housing in New York, we know for example, that is a lagging indicator. So we've seen actually lower rent coming a bit lower. So that number is going to reveal itself in next year's inflation. So maybe there's something more optimistic to look forward to. Not so much a disinflation but lower inflation.
Chana Schoenberger:
I wonder, one of the things that we've looked at in the financial services industry is unionization. So we're seeing this in a number of different places. And of course that sort of goes along with this idea that workers have more power because there are so many openings that companies are willing to make significant concessions to workers just to get them to fill those roles. I wonder what's going to happen with that.
Solita Marcelli:
Yeah, I think it would be interesting. Right now in the financial services, I'm not seeing that about unionization, given where we're seeing this year is going and a lot of the news in Wall Street, a lot of layoffs, a lot of layoffs and probably more muted compensation packages. So maybe people who've never thought about unionization might start, think about it. But joking aside, I do think over the next year is going to be a relatively challenging and I'm not seeing that much of a significant rise in compensation, at least from an inflationary perspective over the next year.
Chana Schoenberger:
So let's talk about next year, 2024. Where are we generally headed? So it sounds like growth might come down a little bit. Inflation will still happen, but it's not going to be quite as high.
Solita Marcelli:
So our view is that as we go into 2024, economy is going to continue to slow, especially in the first, first quarter, second quarter. And that's basically a reflection of the lagged impact of the cumulative monetary policy because at this point it is actually restrictive. Even if Fed doesn't do anything and keeps rates on hold where they are, the consumers are still healthy, but there are more pressures that consumers are going to be facing, not just the higher rates, but also we've talked quite a bit this year about the resumption of the student loans and there are other pressures as well. Yes. Now that said, our view is not for a recession. I don't think a recession way we understand it is in the cars because I think they're important chuck absorbers that are in place. And the most important of those is the labor market.
Labor market is still quite healthy. So we are in the soft landing camp. Nonetheless, there is going to be a landing soft landing camp. I think for a few quarters we're going to have growth that is below trend, but nonetheless, it's still positive on the inflation. Like I mentioned, I think we're going to see prices moving closer to fed's target. And with that backdrop, that should give some ammunition for rate cuts. Our expectation for next year is about 75 basis points or so. And along with that, government buying yields should come down. We saw a big rally already in November. So the move from here onward probably is not going to be very linear. The bond market I think went too far too fast. There might be a consolidation in the near term, but nonetheless, I think the direction is one where we're going to on the 10 year especially, we would head towards a 3.5% by the end of next year. So positive returns on bonds, positive return expectations on equities as well, but not so much probably low single digits. It's already fairly priced. A lot of that move really has been moved forward. So that's sort of our expectation for next year.
Chana Schoenberger:
So if not stocks, then where should investors be looking next year?
Solita Marcelli:
So I want to be careful when I say it's not. We still believe in a diversified portfolio. We still have significant investments in equities, in bonds. Our preference is still for bonds over equities, but that doesn't mean just buy bonds and don't touch equities. It's just an asset allocation compared to a benchmark. I think in both cases, in both stocks and bonds, our focus is on actually quality. And the way it reveals itself in stocks is technology sector. Although the valuations are not cheap, I think there is still momentum behind it and you find a lot of good quality stocks inside that. There's some quality names in healthcare as well. So I think it is picking and choosing those kinds of names as opposed to a blanket investment. And same thing in the bonds quality investment grade. We've already extended duration earlier this year. We took it off recently with the move, but I think if we see a rise back in yields again, that will be an opportunity to add more. So there's lots of things to do, but of course there's alternatives as well. And we spend a lot of time on that because you can actually get better yields with private credit. You can reduce your volatility in your portfolio with macro hedge funds. There's lots of things to do.
Chana Schoenberger:
Okay. A lot of options. So here at American Banker, we obviously are mostly looking at banks. What are you seeing for the bank and financial services sector for 2024? So out of the banking crisis, which was last spring, there's been this huge focus on the industry, there's been a lot of new regulations. The Basel III framework is coming in. What's going to happen?
Solita Marcelli:
Yes, what's going to happen? Million dollar question. So first of all, we have a neutral view on the financial services sector, particularly banks, which means that we see the risk reward quite balanced. And our expectation for performance on the equity side is in line with the market. Now that said, I think it is very well known that banks don't necessarily do all that well in later stages of the cycle. And I do think that in the near term, higher rates will continue to have pressure on banks and on their net interests, margins, higher delinquencies and curbing long demand, which has already been weakened places like commercial space. But then on the positive side, I think we will see signs of improving revenues later in the year, probably in the second half as the economy re-accelerates. The risk to all of that is of course the rates stay higher for longer.
In some ways I'm thinking if we were to have a mild recession, it might actually make banks' lives easier because you can actually rip the bandaid off once and for all and move on with your life. So I would say a neutral view now, but we have to make a distinction I think between large banks and regional banks, I think multinationals are pretty well positioned in this environment. If you think about it from a regulatory perspective, they're already used to scrutiny. But then again, there are a number of mid-sized banks that still have to do some catching up on that. From a rate perspective, large banks tend to have less pricing pressure around their deposits. And then from a credit perspective, regional banks tend to have higher concentration in more higher risk areas like commercial real estate,
Chana Schoenberger:
Construction loans.
Solita Marcelli:
construction loans, all of that. So I think we have to make the distinction between the two.
You asked about the regulatory environment and what happened this year. So I think what the episode that we had experienced I think only accelerates the trend that was already in place, which is more regulation. I think obviously the expectation is mid-sized banks that have at least a hundred billion or more in assets will have to go through the same liquidity standards, stress tests, all kinds of stuff that big banks are used to going. And the Basel III endgame certainly adds fuel to this regulatory fire. It will definitely require higher or will lead to higher compliance costs, higher capital levels across the industry. And one of the estimates that I have seen recently is that for larger banks, it would cause them to have CT one capital going higher by about 15 to 20%. So that's sizable. But I think we just have to remember that whenever there is a proposed regulatory change, banks actually do start adjusting to it even before it's enacted. They have to. They have to.
And they tend to swing more to the conservative side. So already we might be seeing the impact of this, even if the current terms of the Basel III proposal gets softened up at the end of the day already, we might be seeing the impact of it in terms of the long growth from tighter underwriting and risk weighted assets management. And also we're also seeing a lot of banks being in this more capital accumulation mode, buying back less stock than used to. So if Basel III endgame is adopted in the way that is proposed today, I think it's a huge setback for banks. I think it would hit them and I think it would hurt their profitability.
Chana Schoenberger:
That's what they say too. Yes. Loudly.
Solita Marcelli:
Right, slightly. So I work with a bank, I guess I'm in line, but I don't think that is really the main question. The question is what it actually gets enacted at the end of the day, and this commenter period just got extended. I don't think anything is likely to be implemented before earliest 2025. Coincidentally, that happens to be after the elections. So lots of things to be decided between now and then.
Chana Schoenberger:
So that's a good segue into my question about the election. So obviously this is the big issue facing the country in 2024, is who are we going to pick to be our next administration? What happens either way?
Solita Marcelli:
Either way, yeah. So maybe just let's get the prediction out of the way. Answer. I don't know. I don't know because there's still a lot of time. But I think what I can say with more confidence is that we're probably going to end up again with a divided government where the Republicans take the Senate and the Democrats will take control of the house, which means it is unlikely that we're going to be seeing any sweeping reforms. So I think that is more at every election cycle, all these research starts coming out. Well actually Republicans are better for the market. And then another research comes out as actually Democrats are better for the market and you can slice and dice this information in a hundred different ways based on our research. Our research always shows that there's really no reliable way an election actually impacts the market.
Usually it's the fundamentals that drive the market, it's the Fed, it's the economy, it's all of that stuff. So from that perspective, our advice has always been to our clients, our advisors. If you want to express a political view, do it through a vote rather than your portfolio. That said, there are certain sectors that get impacted more than others and versus we're talking about financials. Financials tend to be in the crossfire, no doubt about it. And the way I think about the risk to financials is in two ways. One is legislative and the other one is regulatory. On the legislative side, I can't actually think about any scenario at this moment where you would see a sweeping legislation like a Dodd-Frank like we had in 2010. So I put that aside. But on the regulatory side, well that's where who the president will be is going to be key.
I guess the saying goes, personnel is policy because it's a president that decides and nominates who's going to be heading the agency's FDIC, Fed, SEC, and how that person, he or she interprets, enforces, or I guess revises the previous regulations is going to be critical. So far we have seen the regulations, actually the pendulum of revenue regulation has swung against banks with the Basel III endgame we talked about. So if you do see a democratic presidential victory, a problem is more of the same continuation of that and maybe an earlier enactment of Basel IIII endgame on the other side, if you have a Republican presidential victory, then most likely that person is going to take the opposite stance of that. So I think that's how I think about the impact on financials.
Chana Schoenberger:
It's going to be interesting. And then there's the CFPB case, which the Supreme Court heard this fall and they're going to rule on it in the summer, basically whether the CFPB is even constitutional at all. And then what happens? Do you have to give back all of the fees that people have paid to the agency? Do the rules all just vanish? Will it morph into another form? That's actually where the funding is authorized by Congress and all these things matter deeply, especially to anyone who does credit cards.
Solita Marcelli:
Yeah, so I mean elections definitely. I mean, we have this election watch series that we do, I don't even know, started way before my time here, but we start the series about 18 months before the elections. We've already put out a couple. And so we are gearing for the, I say the final stretch, but from January to November, obviously it's a long time and we will be covering a lot taxes, issues, regulations, all of that. So I think it's going to be an interesting year as it always is.
Chana Schoenberger:
Yes, there's no dull moment in an election year. It should be high drama. So when you think about geopolitics, obviously there's always a lot going on in the world this year. The US is embroiled in a number of things that are going on. There's the question of the Israel-Hamas war, there's the Ukraine war, there are the trade issues with China and Taiwan and all these things. How should bankers and investors think about these areas when it comes to the markets?
Solita Marcelli:
Chana, you're right. Look, I think as we speak, we are witnessing the redrawing of the map, right? I mean, since the fall of the Berlin Wall, the United States position as the world's superpower has been uncontested. That's not the case anymore. There's a whole world out there that is not aligned with US and is getting, probably will likely get closer to China. And so in this new world order nationalism is triumphs economics. And we're seeing this shift from a focus on efficiency to a focus on resilience. And I think that's why we're seeing an acceleration of the de-globalization movement as well. And I think when we look at the trade numbers as a percentage of global GDP, it's pretty clear that we have peaked, especially when, to your point, US Europe, China have just really accustomed to all these exchanges around sanctions, tariff, export controls.
Chana Schoenberger:
I had lunch with an Italian banker the other day and he was telling me that Italy is almost entirely not dependent on Russian oil. Now they've moved almost entirely away from it, whereas before they were very intertwined, which was so interesting because this is something that two years ago you never would've thought they would do.
Solita Marcelli:
Yes. And Germany, I mean it took a Ukraine, Russia war to be able to revisit the Nordstreams, all that. I guess the way I think about this right now is I think there people are in a world of the globalization, maybe focusing on their investments a little bit onward while a lot of risks come up. I think from an investor perspective, there are opportunities too because now a lot of investments are focused on the us. We have about $700 billion earmarked for infrastructure investing based on the recent government legislations. And I think that is also impacting companies decisions' around where they want to do their capital spending as well. We have seen manufacturing in the US, manufacturing construction as a percentage of GDP reach a decades high. Who would've thought that manufacturing is coming back. So I think we are moving into this new economic cycle where investments are supported not just in areas like what we talk about every day, tech, AI, all that stuff, but also interestingly in all investments in all economy like energy, both renewable and fossil defense, capital goods, those areas that have been starved off capital for quite some time. So that is, I think this geopolitical, maybe chaos. This is a silver lining at least where opportunities are arising for masses. The war that you mentioned, of course huge in the headlines, both Ukraine and Russia and Israel, Hamas. But from a global economic perspective, at least in the near term, we don't see much of an impact. Yes, in the beginning, Russia, European did with energy prices, but to your point, a lot of actions have been taken and today, two years almost into it, where is oil, in the seventies?
It doesn't last very long in terms of impact in the market. But I think one area to watch is still the energy prices because even though Israel Hamas war right now is contained in the region two months later, we're still in the war. It is fluid of other players. Somehow were to come in an especially tight energy supply environment, which we have been for quite some time that could cause a disruption and push oil prices higher. And this year, obviously consumers benefited from a declining oil prices. So the reverse of that would be a headwind. So those are the things that I would watch over the next year.
Chana Schoenberger:
Great. Well thank you so much. We're out of time. I appreciate you coming in.
Solita Marcelli:
Thank you. It's been a pleasure. Wonderful to do my last weekend with you this year. Yes.
Chana Schoenberger:
Happy new year.
Solita Marcelli:
Happy New Year as well.
