Woman shopping for groceries in Brooklyn, NY, on September 15, 2023.
Paola Chapdelaine | The Washington Post | Getty Images
A recession that was in the forecast for 2023 never came to fruition.
That has led to optimism that the Federal Reserve can reduce inflation and slow the economy without a recession, in what is called a “soft landing.”
But inflation may remain higher than the central bank’s 2% target for some time, which means the economy instead may be headed for a “deferred landing,” according to Roger Aliaga-Diaz, global head of portfolio construction and chief economist for the Americas at Vanguard.
“If the economy remains strong, that could mean that inflation actually does not come back down as quickly as we thought,” Aliaga-Diaz said.
Vanguard no longer has a recession as a baseline for 2024, according to its latest forecast, though it projects a soft landing could still happen. The firm has also revised its forecast for stronger U.S. gross domestic product growth — from 0.5% to 2% — and lowered its projections for year-end unemployment — from 4.8% to 4%.
At the same time, it bumped up its 2024 forecast for core inflation — defined as price growth excluding food and energy — from 2.3% to 2.6%.
The Federal Reserve will remain “cautious,” Vanguard predicts, and that could mean it maintains its target rate near the current 5.25% to 5.5% range.
How consumers feel about the prolonged fight to bring inflation down will depend on their personal inflation rate — the basket of goods and services a particular family spends money on, Aliaga-Diaz said.
If their spending is disproportionately focused on categories that are seeing higher rates of price growth — such as education or health care, for example — they will feel the effects of higher prices more acutely, he said.
“The average inflation rate masks a lot of variation, and you can see very different experiences there,” Aliaga-Diaz said.
Balanced portfolios will pay off, experts say
The current interest rate environment has paid off for some investors. For the first time in years, fixed income investments have provided positive real returns, Aliaga-Diaz noted.
As the Federal Reserve works to bring inflation down to 2%, that likely won’t mean interest rates will go back to 2010 levels, he said.
“We think we have entered a new world in which rates will stay higher for various reasons,” Aliaga-Diaz said. “We call it a return to sound money.”
Higher rates will be good news for people who depend on their portfolios for income, such as retirees.
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Investors who want inflation protection can look to Treasury Inflation-Protected Securities, or TIPs, Aliaga-Diaz said. But it is important to remember that inflation hedging is not the only risk to watch for, he said.
For the rest of 2024, a balanced and well-diversified portfolio is still the goal.
“I would advise people to not do anything different with their long-term plans,” said David Rea, president of Salem Investment Counselors, a firm that was No. 27 on the 2023 CNBC FA 100 list.
If your target asset allocation is 60% stocks and 40% bonds — or 80% stocks and 20% bonds — that should not change based on a future guess as to where inflation may land, Rea said.
“Even if you get it right, it doesn’t necessarily mean you’d be better off with stocks or bonds,” Rea said.
