The Federal Reserve said Dec. 13 that slowing inflation and other accommodating economic indicators could mean no interest rate hikes in 2024, and it even penciled in three rate cuts. That was a good affirmation for KKR. The asset manager forecasted three cuts in its market outlook for next year, which is one of the most robust that gets sent around in December.
“We’re eating our own cooking in terms of what we’re suggesting in the paper,” said Henry McVey, the head of global macro and asset allocation at KKR and the chief investment officer of the firm’s $26 billion balance sheet.
Virtually every market outlook includes calls on central bank interest rates and other macroeconomic shifts. “A lot of what our note goes into is these opposing forces. You’ve got incredibly accommodative fiscal [policy], but at the same time you’ve had very restrictive monetary [policy] and then you’ve got goods deflation, but services inflation. There are all these unusual contrasts,” McVey said.
KKR’s 75-page tome of research has that and more and McVey highlighted some must-read parts for Institutional Investor.
“The Fed confirmed our view. They laid out a backdrop where investors can make money without taking undue risk. It’s not perfect, but certainly they’re telling you cash is getting less attractive and they’re telling you that inflation is coming down so it doesn’t belittle the structural headwinds of poor demographics, geopolitics, cranky supply chains. But the offset of that is there’s some really interesting investible themes,” McVey said.
The CIO is “very bullish” on two themes: cybersecurity and opportunistic credit.
KKR thinks more regulation related to cybersecurity is coming and public and private investment is needed to prevent and combat threats. Bad actors continue to improve their techniques and an estimated 72 percent of firms with annual revenues over $5 billion have been attacked in the past 12 months, according to the outlook. Within the theme, the firm says major developments will especially impact traditional financial services, including banking, trading, settlement, and wire transfers.
Investors who can nimbly “toggle” across different types of credit will have significant opportunities, KKR says. Similar flexibility paid off for investors this year and it will again in 2024 as central bank policies shift from one extreme to the other. Alpha-generating high-yield, leveraged loans, and structured credit strategies, across sectors and other themes, can take advantage of changing spreads and higher risk-free rates. KKR notes that the absolute returns of these types of vehicles are competitive with stocks in many instances but they are likely less volatile, and higher up in company capital structure.
Beyond those two themes, investors are also overlooking investment opportunities in Asia, according to McVey, who has been traveling there for 30 years. In Japan, there is a need for more infrastructure to support data, logistics, and transportation. Companies there are searching for new ways to drive productivity and capital expenditures are hitting record highs — those investments will be critical in a higher-nominal-gross-domestic-product world where labor costs and other rising inputs could otherwise pressure margins, according to KKR’s report. Shareholder reforms are making it easier to invest in Japan, another tailwind there.
The global energy transition will require more investment, too.
“I think the biggest opportunity is actually the brown to green. It’s not that renewables are not attractive, but there’s going to be a huge amount of investment that goes into taking asset heavy businesses and making their carbon footprint lighter,” McVey said.
For example, during the recent boom in artificial intelligence, most investors have focused on the semiconductor sector. But KKR has been spending more time on the surge in energy demand to train AI models.
“The reality is that, in many instances, existing infrastructure is insufficient to meet the demand required. Against this backdrop, we are bullish on critical energy transmission assets, data centers, and cooling technologies,” the outlook said.
