28 November 2022 | 6:02AM GMT

GOAL: Global Opportunity Asset Locator

Outlook for 2023: From inflation to growth frustration —

tactically defensive but looking to re-risk
Christian Mueller-Glissmann,
CFA
+44(20)7774-1714 | christian.mueller-
[email protected]
Goldman Sachs International

Cecilia Mariotti
+44(20)7552-0450 |
[email protected]
n We remain relatively defensive for the 3m horizon (OW cash/credit, N Goldman Sachs International
commodities, UW bonds/equities) with further headwinds from rising real yields Andrea Ferrario
+44(20)7552-4353 |
likely and lingering growth uncertainty. With risk premia relatively low, especially [email protected]
Goldman Sachs International
For the exclusive use of [email protected]

after the recent relief rally, near-term we would focus on yield, and remain
Peter Oppenheimer
up-in-quality and selective on procyclical exposure. We expect opportunities to +44(20)7552-5782 |
[email protected]
add risk in 2023 and are N across assets/OW commodities over 12m. Goldman Sachs International

n Without depressed valuations, for markets to trough investors need to see a David J. Kostin
+1(212)902-6781 | [email protected]
Goldman Sachs & Co. LLC
peak in inflation and rates, or a trough in economic activity. The growth/inflation
mix remains unfavourable – inflation is likely to normalise but global growth is Timothy Moe, CFA
+65-6889-1199 | [email protected]
Goldman Sachs (Singapore) Pte
slowing and central banks are still tightening, albeit at a slower pace.
Jeffrey Currie
n The valuation starting point has improved but risky asset valuations are well +44(20)7552-7410 |
[email protected]
above recessionary levels and earnings are skewed to the downside next year. Goldman Sachs International

And the recent relief rally on peak inflation/hawkishness hopes has reduced risk Lotfi Karoui
+1(917)343-1548 | lotfi[email protected]
premia on cyclical assets again. Goldman Sachs & Co. LLC

Kamakshya Trivedi
n Equity risk premia appear low considering elevated recession risk and

43b4ba46e812457c94ec14090904c026
+44(20)7051-4005 |
[email protected]
uncertainty on the growth/inflation mix. Weak growth and volatility coupled with Goldman Sachs International

relatively high valuations keeps equity drawdown risk elevated. Financial stability Praveen Korapaty
+1(212)357-0413 |
concerns have also picked up alongside market stress indicators. [email protected]
Goldman Sachs & Co. LLC
n Fixed income broadly offers a more attractive risk/reward for multi-asset George Cole
+44(20)7552-1214 |
portfolios. Bonds should be less positively correlated with equities later in 2023 [email protected]
Goldman Sachs International
and provide some diversification benefit – but until central banks stop hiking and
Caesar Maasry
inflation normalises bonds are unlikely to be a reliable buffer for risky assets. +1(212)902-8763 |
[email protected]
n We expect more regional diversification benefits, supported by an eventual peak Goldman Sachs & Co. LLC

in the US Dollar in 2023. With low expected returns and limited diversification
benefits from traditional assets, the case for larger allocations to alternatives and
focus on alpha rather than beta remains strong.

This report is intended for distribution to GS institutional clients only

Investors should consider this report as only a single factor in making their investment decision. For Reg AC
certification and other important disclosures, see the Disclosure Appendix, or go to
www.gs.com/research/hedge.html.
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Table of Contents
Asset allocation: Defensive near-term — waiting to re-risk 3

Multi-asset: From inflation to growth frustration 6

Multi-asset positioning: Bearish, but not at trough and less so recently 19

Multi-asset volatility: From rates to growth volatility 22

Equities (3m UW & 12m N): Bear with it 26

Government Bonds (3m UW & 12m N): Chasing neutral 30

Credit (3m OW & 12m N): There will be yield 35

Commodities (3m N & 12m OW): Looking past lockdowns 40

FX: Waiting for a challenger 46

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Calendar: Key events in 2023 50

Asset class forecast returns and performance 51

Key macro forecasts 52

Disclosure Appendix 54

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 Goldman Sachs GOAL: Global Opportunity Asset Locator

Asset allocation: Defensive near-term — waiting to re-risk

We remain defensive for the 3m horizon with further headwinds from rising real
yields and lingering growth uncertainty. With risk premia relatively low, especially
after the recent relief rally, near-term we would focus on yield, and remain
up-in-quality and selective on procyclical exposure. We expect opportunities to
add risk in 2023 and are N across assets/OW commodities over 12m.

Without depressed valuations, for markets to trough investors need to see a peak
in inflation and rates, or a trough in economic activity – while there could be less
inflation frustration in 2023, we expect a shift from rates to growth volatility to be
the core risk for portfolios. As higher yields and cost of capital feed through to the
global economy, the risks to growth are mostly to the downside.

Exhibit 1: We remain defensive near-term and are looking for opportunities to re-risk in 2023
3-Month Horizon 12-Month Horizon
Asset Class Weight* Asset Class Weight*
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Cash OW Commodities OW
Credit OW 6 Cash N
USD IG ↑ Credit N
EUR IG ↑ 2 USD HY →
EUR HY ↓ 3 EUR HY →
USD HY ↓ 1 EMBI →
EMBI ↓ 4 USD IG →
Commodities N 5 EUR IG →
10 yr. Gov. Bonds UW 10 yr. Gov. Bonds N
US → 2 US ↑
Germany → 3 Germany ↓
Japan → 1 Japan ↓
Equities UW Equities N
MSCI Asia Pac ex Japan ↑ MSCI Asia Pac ex Japan ↑
TOPIX ↑ TOPIX ↑
S&P 500 ↓ STOXX Europe 600 →
STOXX Europe 600 ↓ S&P 500 ↓

43b4ba46e812457c94ec14090904c026
* Arrows denote preferences within asset classes.

Source: Goldman Sachs Global Investment Research

UW equities for 3m and N for 12m and with volatility expected going into next
year, followed by a recovery in 2H. Conditions for an equity trough have not yet been
reached, in our view – we are looking for lower valuations, a trough in negative growth
momentum and a peak in interest rates before a new bull market starts. We expect
markets to transition to a ‘Hope’ phase at some point in 2023 but from a lower level. The
initial rebound from the trough is likely to be strong, in line with the beginning of most
cycles. We forecast low earnings growth across markets and flat returns in US equities
over 12m. For non-US markets we see better returns, in particular for Asia ex Japan,
boosted by China reopening, and as a result we are OW Asia within equities, N Europe,
and UW the US for 12m. For 3m we are also UW Europe due to risks from the
recession and energy crisis.

Key Ideas – US: slowing inflation beneficiaries, resilient margins, avoid unprofitable
long-duration stocks; Europe: high DY, high & stable margins, avoid weak balance
sheets; Asia: strong vs weak earnings revisions, China reopening beneficiaries, China

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 Goldman Sachs GOAL: Global Opportunity Asset Locator

“Little Giants”; Japan: high shareholder returns, defence spending, foreign favourites.

UW bonds for 3m and N for 12m due to better yields but expect further upward
pressures on yields into next year. The buffer for equities remains unreliable until peak
hawkishness and inflation normalises. We expect 10y USTs and bunds to peak at 4.5%
and 2.75% respectively in 1H23, though Treasury yields could end 2023 lower, at 4.3% –
we prefer USTs to bunds for 12m. We are at peak inversion/bear flattening but material
steepening may require clearer evidence of rate cuts. Inflation pricing appears too
optimistic about inflation normalisation in Europe and the US. We expect rates vol to
peak (and prefer vol shorts in US vs. Europe) and EMU sovereign spreads to widen into
next year.

Key Ideas: Short 10y bunds, sell SFRZ3, 5y5y OIS shorts in the US, long 5y HICP swaps
versus US CPI swaps, sell 6m2y USD receivers, 2s30s swap spread curve steepeners,
short 2y Gilt spreads, 6m1y SOFR/FF basis tighteners.

OW credit for 3m and N for 12m due to attractive risk-adjusted yields following
aggressive central bank tightening this year. We expect solid total returns with low
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but positive excess returns and elevated dispersion. Near-term we expect a further
widening of USD and EUR spreads but a gradual tightening from Q2 2023. Risks are
skewed towards the negative side but limited recession risk and slower central bank
tightening support our baseline expectation. We remain mostly up-in-quality. With falling
rates vol we like US agency MBS, short-dated IG and AAA structured products.

Key Ideas: OW agency MBS vs. IG, OW IG vs. HY in USD and EUR, UW BBs, OW Bs,
and N CCCs in USD HY, OW AT1s vs. EUR HY, OW HY bonds vs. leveraged loans, OW
low-price USD IG bonds vs. high-price peers, OW AAA-rated structured products in
select segments vs. junior tranches and USD IG.

N commodities for 3m, OW for 12m as we still see attractive return potential and
continued diversification benefits. We believe that we are in a structural bull market

43b4ba46e812457c94ec14090904c026
for commodities due to multiple years of underinvestment. Allocations to real assets are
more beneficial with higher inflation and inflation volatility. A stronger Dollar and slowing
growth could weigh on commodities near-term but a Dollar peak with China reopening
should support the complex in 2023. We also think Gold is increasingly asymmetric with
less downside in the event of rising real yields, but strong upside with falling real yields.

Key Ideas: Long GSCI Copper, long Dec 23 Brent Crude, long Dec 23 Gas TTF.

We expect the Dollar to peak later in 2023 but remain near-term selective in
leaning against renewed Dollar strength. The Dollar looks overvalued but Fed pricing
appears too low for 2023. Peaks in the broad Dollar are most reliably associated with a
trough in measures of US and global growth, and an easing Fed. With the Fed unlikely to
cut until 2024 the Dollar peak may be a few quarters away. An earlier Dollar peak than
we currently forecast could come from an earlier and more convincing Fed pause, a path
towards more stable energy supply in Europe, or a faster reopening in China.

Key Ideas: Long SGD/TWD, short CNH/KRW, short GBP/MXN.

We would like to thank Marcus von Scheele for his contributions to this report.

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 Goldman Sachs GOAL: Global Opportunity Asset Locator

Review of 2022: A Balanced Bear with most assets suffering from higher real yields
Sharp increases in (real) bond yields have led to a major valuation reset across assets, especially long
duration ones. Cash, as measured by T-bills, has outperformed most assets. There has also been a
leadership change within and across assets: Nasdaq, FANG+, and Bitcoin, strong performers last cycle and
early in the COVID-19 recovery, underperformed and are down -27%, -37% and -64% respectively YTD. On
the flip side, S&P GSCI Energy, S&P GSCI and the DXY have performed the best, extending some of last
year’s trend. Short-duration and Value stocks have also outperformed for the first time since Q4 2006, led
by Energy and Financials. On a regional basis, MSCI EM has underperformed in large part due to its China
weight. In Europe, the STOXX 600 and DAX are down -7% and -8% respectively. Traditional safe assets
such as Gold, the Yen, and the Swiss Franc have not provided much protection due to headwinds from
rising real yields and the strong Dollar.

Exhibit 2: In 2022 there were few places to hide with most assets down

50% YTD performance 2021 (Full Year Perf.) 50%

+61% +58%
40% 40%
30% 30%
20% 20%
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10% 10%
0% 0%
-10% -10%
-20% -20%
-30% -30%
-40% -40%
-50% -64% -50%
S&P GSCI

Japan 10y

Japan 30y
USD Cash

S&P GSCI Ind. Mat.

CHF vs EUR

Fin. vs. staples

EUR IG
Cyc v. Def

MSCI World

EMBI
US Risk Parity

US IG

JPY vs USD

MXAPJ

Nasdaq
DXY

S&P GSCI Gold

Topix

EM FX

STOXX 600

US HY

Momentum

FANG+
Japan 60/40

Germany 10y

Copper
S&P low vol

EUR vs USD

EUR HY

CNH vs USD

US 60/40
Europe 60/40

US 10y

Bitcoin
MSCI EM
S&P 500

Russell 2000

US 30y
S&P GSCI Energy

Value vs. Growth

Source: Bloomberg, Datastream, Goldman Sachs Global Investment Research

As a result, diversification in multi-asset portfolios has been challenging in 2022. A traditional 60/40
portfolio has suffered a -25% max drawdown due to positive equity/bond correlations, one of the largest
falls since the Great Depression. As cross-asset volatility has picked up, risk parity strategies have also
struggled, down -20% at the trough, the largest drawdown since the 1960s. Similarly, Nasdaq vs. Dow

43b4ba46e812457c94ec14090904c026
Jones relative performance was the worst since the Tech Bubble burst.

Exhibit 3: A traditional 60/40 portfolio has suffered a -25% fall, Exhibit 4: The sharp increase in real yields has weighed on
one of the largest drawdowns since the Great Depression longer-duration stocks
60/40 Real Total Return Performance 1-year rolling relative performance
0%
70% NASDAQ vs. Dow Jones
-5% 60%
50%
-10%
40%
-15% 30%
20%
-20%
10%
-25% 0%
-10%
-30%
-20%
-35% -30%
-40%
-40%
-50%
-45% -60%
1-year drawdown
-70%
-50% 76 80 84 88 92 96 00 04 08 12 16 20
1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 2020

Source: Datastream, Haver Analytics, Goldman Sachs Global Investment Research Source: Datastream, Goldman Sachs Global Investment Research

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 Goldman Sachs GOAL: Global Opportunity Asset Locator

Multi-asset: From inflation to growth frustration

(1) Growth/inflation mix to remain mixed

While monetary policy should become less of a headwind in 2023, the
growth/inflation mix will likely remain unfavourable – inflation should normalise
but global growth is slowing. Our global outlook is for growth to moderate from 2.9%
in 2022 to 1.8% in 2023 with relative resilience in the US, a European recession and
China reopening boosting growth in Asia (Exhibit 5). Our economists are above
consensus for US growth in 2023, supported by strong real income growth, but only
expect a 1% below-trend pace. They expect Europe to have a mild recession due to a
real income hit from surging energy bills. China is likely to have a bumpy recovery as an
April reopening could initially trigger further increases in Covid cases keeping caution
high, but growth should accelerate sharply in H2 on a reopening boost. With Europe
also recovering from its recession we expect global growth to accelerate in 2H.
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Inflation is likely to peak for most DM economies and normalise throughout 2023
(Exhibit 6). In the US our economists expect core PCE inflation to decline by 2pp by
end-2023 without a material increase in the unemployment rate, due to labour market
rebalancing and a normalisation in supply chains and rental housing. In the Euro area
inflation is likely to be more persistent and our economists expect headline and core
inflation to peak in December at 11.6% and 5.3% before easing gradually – they remain
above market pricing for most of next year. A key risk remains that inflation pressures
continue – commodity prices are likely to face upward pressures from China reopening
and tight supply next year and the European energy crisis could intensify if there is a
colder winter.

Exhibit 5: Growth is likely to slow and be below trend Exhibit 6: Inflation is likely to peak and normalise
GDP growth (qoq, annualised) - dotted lines denote GS forecasts Core inflation (yoy) - dotted lines denote GS forecasts

43b4ba46e812457c94ec14090904c026
20% US 7% US Euro Area Japan UK China
+24%
Euro Area
Japan 6%
15%
UK
5%
China
10%
4%

5% 3%

2%
0%
1%
-5%
0%

-10% -1%
4Q21 4Q22 4Q23 4Q24 4Q19 4Q20 4Q21 4Q22 4Q23 4Q24

Source: Goldman Sachs Global Investment Research Source: Goldman Sachs Global Investment Research

While we expect central banks to slow their tightening process, monetary policy
uncertainty is likely to remain high, especially near-term. Our economists forecast a
peak fed funds rate of 5-5.25% (a 50bp hike in December and 25bp hikes in February,
March and May). Even though inflation has likely peaked, it remains above target and
the Fed needs financial conditions to remain tight to keep growth below trend,
especially post the recent easing. Our economists expect a terminal rate of 3% for the

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 Goldman Sachs GOAL: Global Opportunity Asset Locator

ECB and 4.5% for the BoE; for both they expect 50bp hikes in December and February
followed by 25bp in March and May. They do not expect rate cuts until Q4 2024 from
the ECB, Q3 2024 from the BoE and Q2 2024 from the Fed – rates are likely to remain
higher for longer.

(2) Less valuation frustration but growth/inflation mix matters

The valuation starting point has improved – while in the COVID-19 recovery both
equities and bond valuations were close to all-time highs, there has been a
material reset YTD (Exhibit 7). However, risky asset valuations are still well above
recessionary levels, especially after the recent relief rally, and earnings are skewed to
the downside next year. In US equity in particular, valuations remain relatively elevated,
and sentiment and positioning never reached extreme bearish levels (see Multi-asset
positioning section). Also, while valuations are now below the average since the
1990s, as we wrote in Balanced Bear Despair – Part 1, a less favourable growth/inflation
mix and higher macro volatility in coming years may mean valuations will be lower than
the average since the 1990s. This suggests that part of the valuation de-rating YTD may
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be structural rather than cyclical; as a result, the asymmetry purely based on valuations
may not be as positive.

Exhibit 7: Valuations across assets have de-rated materially in 2022

Average valuation percentile since 1990. Equity: NTM P/E of S&P 500, MSCI Europe, MSCI EM; Credit: spread of US
HY, IG, EUR HY IG, EMBI. Bond: 10y yield of US, Germany, Japan

100% Equity
Credit
90% Bond

80%

70%
68%
60%

50%

43b4ba46e812457c94ec14090904c026
42%
40%
39%
30%

20%

Valuations
10%
cheaper
0%
90 92 94 96 98 00 02 04 06 08 10 12 14 16 18 20 22

Source: Datastream, I/B/E/S, Goldman Sachs Global Investment Research

(3) Inflation inflection but growth uncertainty increases

Near-term a less favourable growth/inflation mix is likely to weigh on risk-adjusted
returns. Risk-adjusted returns for 60/40 have been worst in periods of low growth and
inflation above 4%, as both equities and bonds usually performed poorly (Exhibit 8).
With inflation falling but growth below trend, the Sharpe ratio for 60/40 has been close
to the long-run average, with bonds generally outperforming. Equities deliver the best
risk-adjusted returns with inflation low and anchored and strong growth – while inflation
is likely to come down next year it should remain elevated alongside weakening growth.

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 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 8: Higher and more volatile inflation is likely to continue to weigh on risk-adjusted returns for balanced portfolios
Average 1-year rolling Sharpe ratios (monthly returns, data since 1900)
US 60/40 portfolio S&P 500 US 10-year bond
Real GDP growth Real GDP growth Real GDP growth
< 2% 2% to 4% > 4% Average < 2% 2% to 4% > 4% Average < 2% 2% to 4% > 4% Average
< 2% 0.15 0.65 0.59 0.41 < 2% 0.34 1.07 1.56 0.95 < 2% 0.62 0.68 0.19 0.47
Inflation

Inflation

Inflation
2% to 4% 0.38 0.50 0.45 0.45 2% to 4% 0.67 1.26 1.10 1.05 2% to 4% 0.78 0.48 0.15 0.42

> 4% -0.19 0.16 0.31 0.09 > 4% -0.22 0.70 0.81 0.40 > 4% -0.36 -0.49 -0.20 -0.30
Avg. 0.09 0.48 0.45 0.33 Avg. 0.23 1.08 1.18 0.81 Avg. 0.34 0.34 0.05 0.22

Source: Haver Analytics, Goldman Sachs Global Investment Research

As we wrote before, a peak in inflation historically drove relief for 60/40 portfolios
but the interaction with growth matters. US 10-year yields on average peaked and
were range-bound in the 6-12 months after inflation peaked. Equities have on average
declined with inflation rising and approaching the peak, but have rebounded past the
peak if a recession is avoided (Exhibit 9). However, in cases of recession they declined
another 10% on average in the 6-9 months post the inflation peak.
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There can also be material differences in central banks’ reaction function: if inflation
peaked above 4% and there was no recession, US 2-year yields often remained
elevated, limiting the relief potential for 60/40. Equities often remained volatile before
the final hike (roughly coincident with the peak in 2-year yields) due to growth concerns
(Exhibit 10) – our rates team expects US 2-year yields to peak at 5% in Q2 2023. While
a peak in inflation is a necessary condition for an equity recovery, it may not be
sufficient: both the central bank reaction function and recession risk matter too.

Exhibit 9: A wide distribution of outcomes for equities past the Exhibit 10: Equities tend to suffer approaching the peak in US
inflation peak, with growth the key determinant for the trajectory 2-year yields, but rebound afterwards
S&P 500 total return. Data since 1955 S&P 500, data since 1955

125 25th/75th Percentile 85 130

Average -1 25th/75th Percentile
Average if followed by recession (ex '70s) 125 Average
120
Average if followed by recession (inc '70s) 130 Average if Fed holds rates high

43b4ba46e812457c94ec14090904c026
Average if not followed by recession 120
115
115
110 110
120
105 105

100
100
110
95
95
90

90 100 85

85 80
-12m -9m -6m -3m 0m 3m 6m 9m 12m -18m -12m -6m 0m 6m 12m
Inflation peak Peak in US 2-year

Source: Datastream, Goldman Sachs Global Investment Research Source: Datastream, Goldman Sachs Global Investment Research

(4) More recession obsession and risk of market stress

Our economists forecast a European recession into next year but see only a 35%
probability of a US recession, and they think any recession would likely be mild.
Still, those levels are well above normal and the US economy appears late cycle on a
variety of metrics, such as unemployment and output gaps. A renewed tightening of
financial conditions also keeps recession risk high. Our market-implied recession
probability for the next 12 months is at 39% currently (Exhibit 11). While recession

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 Goldman Sachs GOAL: Global Opportunity Asset Locator

concerns have been around for most the year, after the recent relief rally risky assets are
pricing only a 11% probability of an imminent recession – this increases the risk of
further recession scares next year.

Exhibit 11: Our market-implied US recession probability has moved to 40% this year to new post-COVID
highs
Orange shade: US recession. Dotted line: unconditional probability
100%

90%

80%

70%

60%

50%

40%

30%

20%
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10%

0%
1950 1960 1970 1980 1990 2000 2010 2020
Market-implied prob. of a recession starting within 1 year Market-implied prob. of being in a recession

Source: Datastream, Haver Analytics, Worldscope, Goldman Sachs Global Investment Research

A decomposition of recession probabilities also shows large divergences between

indicators (Exhibit 12). Among the leading indicators the yield curve remains firmly
inverted and points to elevated recession risk in the next 12 months, and cyclicals vs.
defensive equity valuations point to a 62%. However, MBS spreads, helped by high
home equity, as well as the 12m forward change in the fed funds rate are not signaling
much recession risk next year. The recession pricing of risky assets such as USD HY
credit spreads, the excess bond premium and VIX pricing has turned even more benign,

43b4ba46e812457c94ec14090904c026
and while the S&P 500 drawdown YTD is consistent with a 32% probability of
recession, a large part of this has been due to higher rates rather than growth risks.

Despite US recession risk remaining relatively low, concerns over financial stability
have increased, with market stress indicators across assets picking up1 (Exhibit 13).
The sharp increase in rates YTD has already triggered deleveraging from Tech investors,
UK DB pension funds and in crypto markets but a higher cost of capital could drive
further stress in 2023. A broad universe of 70 stress indicators shows increased liquidity
risk, e.g. higher swap spreads and lower market depth – with ongoing QT next year,
liquidity risk is likely to remain elevated. Solvency risk has also picked up but only
selectively in places such as leveraged loans. Our credit strategy team expects less
vulnerability in credit markets with less leverage, tighter lending standards and better
private sector balance sheets. Still, housing markets, Italian sovereign risk, cryptos,
private markets and shadow banking are likely to remain a concern.

1
72 indicators across money markets, bonds, credit, equity, FX. Liquidity indicators include: bid/ask spreads,
market depths, CDS/cash spreads, ETF price/NAV. Solvency indicators include: spreads across money
markets, corporate and structured credit, cross-currency basis, TRS funding spreads, low leverage stocks vs.
market.

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 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 12: Recession pricing has reset but differs materially across Exhibit 13: Both liquidity and solvency risk have picked up in 2022
assets Fraction of solvency/liquidity risk indicators with z-score > 1.0
Recession probabilities
100% Solvency risk
12m fwd implied change in FF rate 0% Liquidity risk
Recession starting
in the next 1 year

MBS spread 4%
80%
US Cycl vs. Defs LTM P/E premium 62%

US 10y-2y yield 89%

60%
Average 39%

USD HY spread 1%
Being in a recession

40%
Excess Bond Premium 4%

VIX 6%
20%
S&P 500 1-year drawdown 32%

Average 11%

0% 20% 40% 60% 80% 100% 0%

2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022

Source: Datastream, Haver Analytics, Worldscope, Goldman Sachs Global Investment Research Source: Datastream, Haver Analytics, Bloomberg, Goldman Sachs Global Investment Research

(5) The lowdown on the risk of another equity drawdown

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Elevated recession risk and volatility coupled with relatively high valuations keep
equity drawdown risk elevated. As we have written before, while valuations alone are
not a good signal for market timing, combined with macro data they help assess equity
drawdown risk. One way to combine the signals is a logit model that relates the risk of a
10% S&P 500 drawdown over the next 12 months to levels of Shiller P/E and growth as
an indicator of the macro backdrop. A purely valuation-based signal indicates normal risk
of a 10% drawdown, as equity valuations have declined materially YTD (Exhibit 14).

Exhibit 14: Although lower valuations reduce equity drawdown risk, weaker growth and higher volatility
keep it elevated
Probability of an S&P 500 >10% drawdown in the next 12 months (logit model)

100%

43b4ba46e812457c94ec14090904c026
90%

80%

70%

60%

50%

40%

30%

20%

10%

0%
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022
10% DD in the next 12m Shiller P/E Shiller PE + CAI Shiller P/E + 3m vol Unconditional

Source: Datastream, Goldman Sachs Global Investment Research

Adding the US Current Activity Indicator as a proxy for growth suggests higher
drawdown risk in the near term. Based on our economists’ US growth forecasts, the
risk remains elevated even without a recession – with growth shifting below trend,
equities become more vulnerable to shocks. Combining current valuations with volatility

28 November 2022 10
 Goldman Sachs GOAL: Global Opportunity Asset Locator

suggests elevated drawdown risk. Besides weaker growth there are plenty of potential
shocks next year, for example due to financial stability issues, or geopolitical risks such
as the Russia/Ukraine war, China/US or China/Taiwan tensions, the Middle East and
energy supply issues, and the US debt ceiling with a newly divided government.

Much in contrast to the last cycle, the drawdown this year has been relatively
slow. Post the GFC vol of vol trended up, i.e. equity vol spikes and drawdowns were
larger and faster and, similarly, ‘risk off’ moves were often quick, helped by large central
bank pivots (Exhibit 15). This year, vol of vol declined sharply and the equity declines
have been much more gradual. With inflation more sticky, the upward pressure on real
yields due to central bank tightening and the corresponding pressure on market
valuations have been more gradual and persistent. A shift from rates to growth volatility
could result in more tail risk in equities next year, also as the ‘central bank put’ could be
more ‘out of the money’ with inflation still elevated. However, this could also apply to a
recovery afterwards, making market timing more challenging – equities tend to trough
around 6 months before earnings and economic activity (Exhibit 16).
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Exhibit 15: S&P 500 volatility of volatility has been very low YTD Exhibit 16: Equities have historically recovered 6 months before
Volatility of S&P 500 1-month volatility (daily returns) activity data on average
Data since 1950.

200% 1-year 170 S&P 500 (indexed to 100) 65

5-year US Earnings (indexed to 100)
63
160 ISM (RHS)
180%
61
150
160% 59
140
57
140%
130 55

120% 53
120
51
100% 110
49
100
80% 47

90 45
60% -18m -12m -6m 0m 6m 12m 18m
1940 1950 1960 1970 1980 1990 2000 2010 2020 Bear Market Trougs

43b4ba46e812457c94ec14090904c026
Source: Bloomberg, Goldman Sachs Global Investment Research Source: Haver Analytics, Datastream, Goldman Sachs Global Investment Research

(6) From TINA to TARA - equity risk premia appear low

Equity risk premia are relatively low considering elevated recession risk and
uncertainty over the growth/inflation mix (Exhibit 17). After more than 20 years of
de-rating vs. bonds, equities have re-rated since the COVID-19 crisis – Shiller earnings
yields are now below US 10-year yields. Post the GFC, TINA (There Is No Alternative)
has been a key support for equities – with bond yields declining materially, stocks were
more attractive vs. fixed income, due to relatively high equity risk premia (ERP).
Investors are now facing TARA (There Are Reasonable Alternatives), with bonds
appearing more attractive vs. equities (and less risky). Investors can obtain attractive
nominal returns in credit – USD IG credit yields close to 6% and carries little cyclical and
refinancing risk. Investors seeking to protect purchasing power in the long run can lock
in attractive real yields with 10-year and 30-year TIPS near 1.5%.

28 November 2022 11
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 17: Equities are increasingly yielding to bonds - equities have de-rated vs. bonds

16%

12%

8%

4%

0%

-4%

-8%
1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 2020
US recession Shiller EY vs. US 10Y yield Shiller EY vs. US 10Y real yield Shiller EY vs. Moody's Baa credit yield

Source: Robert Shiller, Haver Analytics, Datastream, Goldman Sachs Global Investment Research
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Lower ERPs increase the vulnerability to disappointments on growth, both next

year and in the medium term. Equity risk premia are cyclical and below-trend growth
or rising recession risk can further weigh on equity valuations, both outright and vs.
bonds. Indeed, there has been upside pressure on the ERP: benchmarking the
equity/bond yield gap to the performance of US cyclicals vs. defensives shows that the
ERP is relatively low even after the recovery of cyclicals vs. defensives led by the recent
cycle extension optimism (Exhibit 18). Part of that ERP re-rating can be explained by
unusually high rates volatility, which made bonds more risky vs. equities. Indeed, the
ERP has declined alongside the ratio of implied equity vs. rates volatility, but again it has
undershot recently (Exhibit 19). With peaking rates volatility (and higher bond yields
reducing duration risk in fixed income) but more growth volatility, equities have less
room to re-rate further vs. bonds next year.

43b4ba46e812457c94ec14090904c026
Exhibit 18: The earnings yield gap has continued to narrow despite Exhibit 19: Relative implied volatility points to a regime shift
cyclicals underperforming YTD US ERP based on single stage DDM using consensus economics growth
170 US cyclicals vs. defensives 0
7.0 US ERP Equity vs. US 10-year 5-year implied vol
160 US ERP (RHS, inverted)
1
150 6.0

140 2
5.0
130
3
120 4.0
4
110
3.0
100 5
90 2.0
6
80
1.0
70 7 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22
00 02 04 06 08 10 12 14 16 18 20 22

Source: Datastream, Haver Analytics, Goldman Sachs Global Investment Research Source: Datastream, Consensus Economics, Goldman Sachs Global Investment Research

(7) The return of the bond — better yield but unreliable buffer
Bonds are becoming more attractive for portfolios but yields are still low

28 November 2022 12
 Goldman Sachs GOAL: Global Opportunity Asset Locator

compared with long-run history and the onset of historical bear markets,
especially inflationary ones. As inflation remains above central bank targets the risk of
further hawkish surprises remains – investors’ focus could shift from the speed of rate
hiking cycles to the level of terminal rates and the timing of cuts. Markets have shifted
to more dovish pricing, with Fed rate cuts expected by end-2023. A resilient US
economy and sticky inflation could put renewed upward pressure on front-end rates; we
expect US 2-year yields to peak at 5% (and the 10-year yield at 4.5%). This would also
mean a higher US 10-year real yield peak, which would weigh on equities (Exhibit 20).
On the flip side, if inflation comes down too fast it could bring little relief if it pushes up
real yields first (as central banks could be slow to ease policy). Indeed, the S&P 500 has
been positively correlated with US 10-year breakeven inflation since the GFC.

Exhibit 20: Equities have again become very negatively correlated with US 10Y real yields
12-month correlation of weekly changes with S&P 500

0.8

0.7

0.6
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0.5

0.4

0.3

0.2

0.1

0.0

-0.1

-0.2

-0.3

-0.4
US 10-year yield US 10-year breakeven inflation US 10-year TIPS yield
-0.5
98 00 02 04 06 08 10 12 14 16 18 20 22

Source: Bloomberg, Goldman Sachs Global Investment Research

43b4ba46e812457c94ec14090904c026
Real yields tend to peak around the time when the Fed stops hiking, which is likely to
take longer with high and sticky inflation (Exhibit 21). The ‘central bank put’ is further
‘out of the money’ – central banks likely require a larger ‘growth shock’ to ease, and
equity/bond correlations are more positive (Exhibit 22). In the near term bonds and
duration may continue to be a source of risk rather than safety in the portfolio as
investors still need to reprice a ‘higher for longer’ rates regime – as central banks focus
on fighting inflation, they could struggle to buffer the business cycle, at least initially. The
hurdle rate for extraordinary policy measures such as QE may also be higher. We see
potential for bonds to be less positively correlated with equities later in 2023 and
provide more diversification benefits – but until central banks stop hiking and
inflation normalises further, they are unlikely to be a reliable buffer for risky assets.

28 November 2022 13
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 21: US 10-year TIPS yields peak when the Fed stops hiking Exhibit 22: More positive equity/bond correlation with high inflation

8 US 10-year TIPS yield 20 100%

7 Fed Funds rate (RHS) 80%

60%

1-year equity bond correlation

6 15

5 40%

4 10 20%

0%
3
-20%
2 5
-40%
1
Since 1998
-60%
0 0 From 1970 to 1998
-80%
Current
-1
-100%
-2 -5 0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 10%
1959 1964 1969 1974 1979 1984 1989 1994 1999 2004 2009 2014 2019 5-year CPI

Source: Bloomberg, Goldman Sachs Global Investment Research Source: Haver Analytics, Goldman Sachs Global Investment Research

(8) Equities yielding to credit - more fixed income opportunities

After the rise in yields, fixed income assets broadly offer a more attractive
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risk/reward for multi-asset portfolios. Most carry trades, including lower quality
credit, tend to have attractive return/volatility ratios through cycle but higher left tail risk
during ‘risk off’ – we would remain up-in-quality with lingering growth uncertainty.
Investors need to balance yield from carry trades with risk – lower-risk credit such as IG,
ABS and MBS screen particularly well when incorporating left tail risk (Exhibit 23). And
yield/volatility ratios are likely to improve with falling rates volatility – MBS should benefit
in particular in that scenario.

Exhibit 23: The trade-off between carry and left tail risk offers some interesting opportunities across assets
Data since 2000 where available*

12 WTI (-25%,4)

USD AT1
EURO STOXX 50 2y div.
10 EMFX HY Strategy

43b4ba46e812457c94ec14090904c026
EUR AT1
USD HY S&P 500 2y div.
EMBI
12-month forward yield

8
EUR HY MSCI EM High DY

US ABS
6 EURO STOXX 50 MSCI Europe High DY
Putwrite EUR HY ER
MBS 30-year USD IG
USD HY ER S&P 500 Putwrite REITs Europe
US 10-year REITs US
4
EUR IG Italy 10-year US Utilities
US Cons. Staples TOPIX MSCI EM
EUR IG ER Spain 10-year US Energy
2 UK 10-year S&P Aristocrats S&P 500 US Financials
Germany 10-year USD IG ER
US Convertibles Nasdaq
Copper
0
0% -2% -4% -6% -8% -10% -12% -14% -16% -18%
5% Conditional Value at Risk (CVaR)

*Note: Nasdaq since 2003, AT1s since 2013, Eurostoxx 50/ S&P 500 div. since 2004

Source: Datastream, Haver Analytics, Bloomberg, Goldman Sachs, Goldman Sachs Global Investment Research

While put-writing and some high dividend yield stocks including REITs offer relatively
attractive yields, they also have much higher left tail risk. Quality income stocks tend to
help reduce tail risk relative to equities but are more risky than credit. Dividend swaps
appear relatively attractive considering their tail risk, which includes the COVID-19 crisis

28 November 2022 14
 Goldman Sachs GOAL: Global Opportunity Asset Locator

(up until 2020 the 5% CVaR has been -13% for EURO STOXX 50 and -10% for S&P 500).
USD and EUR AT1 bonds screen as very attractive vs. risk, as well as EM FX HY carry.
After the recent vol reset we see less value in put writing (see Multi-asset volatility
section).

We would remain up-in-quality in credit near-term as a large part of the yield

advantage is driven by ‘risk free’ yields – outside of EM, credit spreads are
relatively tight, especially in HY and Italy. As our EM team highlights, EMBI spreads
look expensive on the fair value model and a non-recessionary slowdown in US growth,
combined with a weaker Dollar and higher UST yields, points to slightly wider spreads
next year. For Italy our rates team sees risks of wider sovereign spreads given the
vulnerability of Italy’s finances to weaker growth outcomes, the energy crisis and the
potential for the ECB to start QT sometime early next year. In the HY space, our credit
strategy team still see risks for renewed widening after the recent relief – credit spreads
have proven more resilient than expected considering current growth.

(9) Peak US exceptionalism — more regional diversification

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US assets have broadly outperformed this year, but mainly in Dollar terms (Exhibit
24). In local currency terms Japanese and European equities outperformed the S&P 500
materially, while MXAPJ underperformed due to the drag from Chinese equities, but
only marginally with the recent China reopening relief rally. US equity valuations have
come more under pressure with rising bond yields due to longer equity duration but the
performance dispersion was also driven by less negative earnings revisions for Europe
and Japan, due to a more favourable sector mix and FX tailwinds. Historically dispersion
of regional equity returns tend to be linked to EPS growth dispersion – while EPS
growth dispersion on our forecast is not much higher than in 2022, we still expect more
opportunities for regional equity diversification (Exhibit 25). Our FX team expects an
eventual peak in the US Dollar in 2023, which should support more diversification
to non-US assets.

43b4ba46e812457c94ec14090904c026
Exhibit 24: A peak in the Dollar may create more opportunities in Exhibit 25: US has not been the best-performing equity region this
non-US equity markets year, at least in local currency
Max vs. min 12m rolling return for the 4 main equity regions

230 140 100%

210 90%
130
190 80%

170 70%
120
150 60%

130 110 50%

110 40%
100 30%
90
20%
70
90
10%
50
0%
30 80 96 98 00 02 04 06 08 10 12 14 16 18 20 22
73 76 79 82 85 88 91 94 97 00 03 06 09 12 15 18 21 S&P 500 best Return dispersion (Max - Min) EPS dispersion (Max - Min)
US vs. non-US equity Real USD TWI (RHS)

Source: Haver Analytics, Goldman Sachs Global Investment Research Source: Datastream, Goldman Sachs Global Investment Research

On a sector-neutral basis non-US equities remain at a large discount to the US,

28 November 2022 15
 Goldman Sachs GOAL: Global Opportunity Asset Locator

especially post the recent relief rally (Exhibit 26). Of course, part of this reflects
higher risk related to the Russia/Ukraine war and the energy crisis in Europe, as well as
the weak China macro backdrop due to zero-COVID policies. However, it creates better
asymmetry for potential outperformance for non-US equities next year. While Europe
has likely entered recession in Q4 2022, we expect it to recover from Q2; we expect
China growth to pick up into Q1 next year and then accelerate further in H2. Our China
factor, which aggregates China-related assets, has already recovered on reopening
optimism but could benefit further based on our economists’ growth forecasts next year
(Exhibit 27).

Exhibit 26: This year non-US equities have de-rated further vs. S&P Exhibit 27: China reopening could boost China-related assets
500 on a sector-neutral basis Average 1-year z-score of China proxies
12m forward sector-neutral valuations vs. US
3.0 China proxies 7
30% Europe China CAI (yoy, RHS)
Japan Real GDP GS forecast (yoy, RHS)
20% Asia ex Japan 2.0 5
EM
10% China
1.0 3
0%
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-10% 0.0 1

-20%
-1.0 -1
-30%

-40% -2.0 -3

-50%
07 09 11 13 15 17 19 21 -3.0 -5
14 15 16 17 18 19 20 21 22 23

Source: FactSet, Goldman Sachs Global Investment Research Source: Datastream, Haver Analytics, Goldman Sachs Global Investment Research

(10) Searching for alternatives — trend-following and commodities

With low expected returns and limited diversification benefits from traditional
assets, the case for larger allocations to alternatives and focus on alpha rather
than beta remains strong. CTAs, commodities (mostly driven by oil) and macro hedge

43b4ba46e812457c94ec14090904c026
funds have delivered positive returns as most traditional assets had large drawdowns
YTD (Exhibit 28). Liquid alternative risk premia indices such as cross-asset carry, trend
and value also performed well vs. their risk. On the flip side, convertibles, US quality
stocks, real estate and listed private equity (LPX 50) underperformed materially. Unlisted
private markets had a more muted performance impact YTD but this at least in part
reflects illiquidity / performance reporting lags – deal activity has slowed materially.
Convertibles may become more attractive next year as elevated volatility and higher
credit yields could drive more issuance, which tends to help performance; also,
valuations of US growth stocks, which have a larger weight in the asset class, have
reset sharply. With a higher cost of capital, we would also expect US quality (strong vs.
weak balance sheet companies) to do better next year – performance this year was
dragged down by large cap Tech, which has little leverage.

28 November 2022 16
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 28: Several alternatives have outperformed traditional assets this year

30%
SG CTA
S&P GSCI (TR)
GSAM Cross
Asset Trend
20% BCOM (TR)
BarclayHedge CTA
S&P 500 Collar (CLL)
NCREIF GSAM Cross Asset Value S&P 500 Put protection
10%
(PPUT)

Total return YTD

HFRX Macro S&P 500 low vol
US 3m T-bills MSCI World Infrastr.
Leveraged Loans
0%
HFRX Equity
DJ Global Infrast.
GSAM Cross
Asset Carry EDHEC Infra
HFRX Global S&P 500 US Enhanced Value
-10%
US ABS LPX Buyout
US HY
Vol target 15% US Equity Momentum
US MBS US Quality
US 10-year TIPS Momentum (120%/ 60%)
-20% US 10Y Bond

Convertibles FTSE NAREIT

LPX50 ($)
GPR property index
-30%
2% 0% -2% -4% -6% -8% -10% -12% -14% -16% -18%
5% Conditional Value at Risk (CVar) since 2010

Source: Datastream, Bloomberg, Goldman Sachs Global Investment Research

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We still see value in higher strategic allocations to real assets but would remain
selective with deleveraging pressure, recession risk and falling inflation next year.
The key problem is that ‘real’ assets often have multiple drivers. Real estate is leveraged
and can be very cyclical, infrastructure is usually more defensive but can face
regulatory/sovereign risk and commodities are driven by supply/demand imbalances,
which worsen sharply during recessions. TIPS are defensive but suffer with hawkish
monetary policy – still, as we are nearing the end of the Fed hiking cycle and with
breakeven inflation relatively low, we like TIPS vs. nominals. While commodities have
performed less well in 2H 2022, we still see attractive returns and diversification
potential next year – correlations between the S&P GSCI and equities have declined
materially, a major shift from the post-GFC regime (Exhibit 29). With a peak in the Dollar
and real yields, Gold could also become a more useful ‘safe haven’.

43b4ba46e812457c94ec14090904c026
We also see further potential diversification from trend-following strategies –
during periods of elevated inflation CTAs have historically delivered strong returns,
irrespective of rising or falling inflation (Exhibit 30). In part this may be due to inflation
‘trending’ more while growth shocks are sharper. This means investors may under-react
and assets can trend for a longer time if supported by macro momentum. Higher
inflation also removes the capacity for central banks to buffer the business cycle and
drive sharp reversals in markets. In the last cycle in particular, large dovish pivots from
central banks often triggered sharp ‘risk on’ rotations during growth slowdowns. With
less sharp moves in equities, option overlays (both PPUT and CLL) did not provide much
protection. With the shift from rates to growth volatility there may be more value in
option overlays (see Multi-asset volatility section).

28 November 2022 17
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 29: Commodities have been less correlated with equities Exhibit 30: Higher levels of inflation tend to be more supportive of
this year - and negatively with bonds CTA performance
Orange shading denotes periods of high (>3%) and rising inflation Data since 1980
70%
0.9 -80%

-60% 60%

0.6 -40% 50%

CTA 12-month return

-20%
40%
0.3
0%
30%
20%
0.0
20%
40%

60% 10%
-0.3
80% 0%
-0.6 100%
71 74 77 80 83 86 89 92 95 98 01 04 07 10 13 16 19 22 -10%
S&P 500 vs. GSCI 12m correlation GSCI 12m return (RHS, inverted) -3.0 -1.0 1.0 3.0 5.0 7.0 9.0 11.0 13.0
US CPI inflation (yoy)

Source: Datastream, Goldman Sachs Global Investment Research Source: Haver Analytics, Bloomberg, Goldman Sachs Global Investment Research
For the exclusive use of [email protected]

43b4ba46e812457c94ec14090904c026

28 November 2022 18
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Multi-asset positioning: Bearish, but not at trough and less so recently

Multi-asset positioning has turned more bearish for most of 2022 – our aggregate
of 13 indicators fell from the bullish levels of 2021 towards the 20th percentile over the
summer and, despite frequent reversals, has struggled to rebound on a sustained basis
(Exhibit 31). Sharp reversals in positioning have been common in prolonged bear
markets and can support temporary bear market rallies before a ‘true’ trough is reached
(Exhibit 32).

For most of the year bearishness has been broad-based across sentiment surveys
and fast money investors: CTAs’ beta to equity has been negative overall (Exhibit 34)
and CFTC net equity futures positions have hovered around record lows, picking up only
recently (Exhibit 35). Risk parity funds have run relatively low equity allocations
although, based on our estimate, the shift has not been too extreme, due also to
elevated rates volatility (both in absolute terms and relative to equities). Fixed income
flows have been the most negative across assets, largely driven by the riskiest pockets
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– EM fixed income and HY bonds more broadly have registered the largest outflows as
% of AuM YTD (Exhibit 33). We would expect fixed income inflows to return, especially
in IG, with more attractive yields.

However, some of our indicators were resilient – our GS Risk Appetite Indicator
(GSRAII) hasn’t turned decisively bearish (Exhibit 31) and global equities have attracted
ca. $220bn inflows, far from last year’s record inflows but still very positive, at least in
the US. While there is still little evidence, we believe the shift from TINA to TARA could
eventually result in some reversal of the large equity inflows since the recovery from the
COVID-19 bear market. Our strategists also expect a decline in buybacks in the US:
these have been the largest and most consistent source of equity demand. Across
investors, multi-asset funds have already showed signs of rotation out of equities and
into bonds (and cash) – net demand has been negative for equities, and positive for

43b4ba46e812457c94ec14090904c026
bonds, in line with the rise in bond yields (Exhibit 36), but overall equity allocations still
appear elevated compared with past bear markets (Exhibit 37).

There has also been a bullish shift in options markets recently, with a significant
pick-up in activity in US single stock calls in particular, which alongside elevated call
skew and spot/vol correlations may signal some investor optimism. That said, the
call/put ratio is still roughly in line with the average since the GFC. Outside of equities,
option positioning appears more conservative – gold and oil skew are turning more
expensive.

Despite the recent rebound of our positioning indicator, as was the case earlier
this year, we are not convinced we are past the ‘true’ trough in positioning.
Historically, troughs in our aggregate indicator have broadly been coincident with the
bottom in the equity market (Exhibit 38). However, there are some meaningful
differences across the sub-components of our indicator: surveys tend to be leading
going into the trough and rebound much faster vs. positioning data. Also, the ‘true’
trough of our indicator has generally occurred at levels below the 20th percentile, which
we have not reached YTD. This suggests there could still be room for downside moves,

28 November 2022 19
 Goldman Sachs GOAL: Global Opportunity Asset Locator

especially after the recent rebound. Once a ‘true’ trough is reached, it takes on average
about 3 months to recover to pre-trough levels, and by that time the economy is past
the trough in activity data as measured by the ISM (Exhibit 39).

While bearish positioning can create a favourable backdrop, exacerbate moves and
improve the asymmetry for a market turn, it is not a sufficient condition for that to
occur. Temporary relief from bearish levels in sentiment indicators such as surveys can
drive large reversals in equities – 1m S&P 500 returns tend to be positive as sentiment
improves – but we think macro momentum will be key in shaping the trajectory across
risky assets and in driving any sustained rebound in both positioning and the equity
market. A shift from inflation to growth concerns (i.e. a transition from rates to growth
volatility) may be required to see a clear capitulation from investors into next year.

Exhibit 31: Sentiment and positioning indicators have fallen from Exhibit 32: Our positioning and sentiment indicator has struggled to
fairly bullish levels at the beginning of the year driven by surveys reach a trough or a sustained recovery
and credit outflows Average percentile of sentiment indicators in Exhibit 31
Percentile of sentiment indicators since 2007

90%
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RISK-OFF RISK-ON
Jul-22 Current End-2021 80%
Average 17
Global Equity Flow (12m) 70%
GS RAI Momentum (GSRAIM) 15
Global Equity Flow (3m) 60%
JPY & Gold CFTC future pos. 13
GS RAI (GSRAII) 50%
Safe Bonds Flows (12m) 11
Safe Bonds Flows (3m) 40%
VIX 9
Equity Risk Parity Allocation 30%
US Call/Put Volume Ratio 7
AAII Bull v. Bear (US) 20%
Inv. Intelligence Bull v. Bear (US) 5
US Equity CFTC future pos. 10%
Risky Bonds Flows (3m) 3
CTA Beta to Equity (3m) 0%
Risky Bonds Flows (12m) 1 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22
0% 20% 40% 60% 80% 100% Bear markets Corrections Average Percentile of Sentiment Indicators

Source: Haver Analytics, Datastream, Goldman Sachs Global Investment Research Source: Haver Analytics, Datastream, Goldman Sachs Global Investment Research

Exhibit 33: Equity inflows have continued in 2022, albeit at a slower pace, while fixed income registered outflows

43b4ba46e812457c94ec14090904c026
Global YTD and last year fund flows in $bn and as a % of AuM at period start
600 +900bn YTD flows ($bn)
2021 flows ($bn)
300

-300
IG & HY
Equity

US Eq.

Inflation Prot.

HY Bonds
EM Eq.

Europe Govt

EM Fix. Inc.
Govt Bonds

US IG

IG Bonds

Europe IG

Mortgage

EM (Hard ccy)

EM (Loc. ccy)

Europe Eq.
Europe HY

Money Market

US HY

Fixed Income
Agg. Bonds
Dev. Asia Eq.

20% YTD flows as % AuM

+38%
2021 flows as % AuM
10%

0%

-10%

-20%
US IG

US Eq.

Inflation Prot.

EM (Hard ccy)

HY Bonds
Europe Govt

Mortgage

EM Fix. Inc.

EM (Loc. ccy)
Govt Bonds

EM Eq.

Equity

IG Bonds

Europe Eq.

IG & HY
Money Market

Europe IG

US HY
Fixed Income

Europe HY
Agg. Bonds
Dev. Asia Eq.

Source: Haver Analytics, EPFR, Goldman Sachs Global Investment Research

28 November 2022 20
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 34: CTAs and risk parity remain broadly risk-off Exhibit 35: CFTC Asset Managers’ positions have recently picked
3-month window up from bearish levels

1.5 CTA Beta to Equity (3m) 55% 250 Drawdown > 10%
Equity allocation of US risk parity strategy (RHS)
1.3 US Net Equity Future Positions of Asset Managers ($ bn)
50%
1.1 200
45%
0.9
40%
0.7 150

0.5 35%

0.3 100
30%
0.1
25%
-0.1 50
20%
-0.3

-0.5 15% 0
07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22

Source: Datastream, Haver Analytics, Goldman Sachs Global Investment Research Source: Haver Analytics, Goldman Sachs Global Investment Research

Exhibit 36: Net demand for equities relative to bonds of multi-asset Exhibit 37: Equity allocations of multi-asset funds have come down
funds is correlated to changes in bond yields but are still elevated compared with past bear markets
US multi-asset funds % Allocation to asset class (AuM weighted). Includes ca. 110 US and
For the exclusive use of [email protected]

174 European multi-asset funds

2% -4% 66 54

64 52
-3%

1% 50
-2% 62
48
60
-1%
46
0%
58
0% 44
56
1% 42
-1%
54 40
2%
Equity vs. Bonds net demand (12-month average, %AuM)
52 38
US 10y 12-month change (RHS, inverted)
-2% 3% 98 00 02 04 06 08 10 12 14 16 18 20 22
98 00 02 04 06 08 10 12 14 16 18 20 22 S&P 500 Bear Markets US Europe (RHS)

Source: Morningstar, Datastream, Goldman Sachs Global Investment Research Source: Haver Analytics, Morningstar, Goldman Sachs Global Investment Research

43b4ba46e812457c94ec14090904c026
Exhibit 38: Troughs in our indicator have historically coincided Exhibit 39: Sentiment surveys tend to peak only slightly earlier vs.
with equity troughs other positioning indicators, but rebound much faster
Sentiment and positioning indicator in Ex. 31, indexed at 100 at the S&P Indicator in Ex. 31 and its positioning and sentiment sub-components.
500 peak. Data since 2007. Data since 2007.
3m 0m 3m 6m 9m 12m
140 25/75th percentile 80% Average Positioning Sentiment ISM (Average, RHS) 53
Average
Current 70%
120 52
60%
100 51
50%

80
40% 50

60 30%
49
20%
40
48
10%
20
-12m -6m S&P 500 peak S&P 500 +6m 0% 47
trough -12m -9m -6m -3m 0m 3m 6m 9m 12m
Trough in our aggregate sentiment and positioning Indicator

Source: Datastream, Haver Analytics, Goldman Sachs Global Investment Research Source: Haver Analytics, Datastream, Goldman Sachs Global Investment Research

28 November 2022 21
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Multi-asset volatility: From rates to growth volatility

2023 volatility regime: from rates to growth volatility

While rates volatility could be nearing its peak, investors are likely to face more
growth volatility next year. High inflation has resulted in exceptionally high rates
volatility since the COVID-19 crisis. This year, the fast pace of Fed rate hikes and
spill-overs from the UK LDI crisis further contributed to bond volatility. This has been
similar to the late 1970s, when rates volatility also picked up materially due to inflation
volatility, and early in the 1980s bonds were just as risky as equities. Indeed, tail risks
were mainly due to rate shocks this year – the number of 3 standard deviation
moves in rates has been the highest in the past 30 years (Exhibit 40). This is a large
shift from the last cycle when growth shocks boosted bonds in equity
drawdowns.

Exhibit 40: Rates had the most tail risk this year, much in contrast to the last 30 years
1-year rolling number of 3 standard deviation daily moves
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18 Equity
Credit
16 Commodity
FX
14
Bond/rates

12

10

43b4ba46e812457c94ec14090904c026
0
90 92 94 96 98 00 02 04 06 08 10 12 14 16 18 20 22

Source: Datastream, Haver Analytics, Goldman Sachs Global Investment Research

Rates volatility should re-set lower as economies move past the peak in inflation
and in central bank hawkishness. G10 central banks have started to slow down their
pace of hiking which, together with the eventual pause in the hiking cycle, should lower
the right tail on the peak in interest rates in the near term and, at the same time,
diminish the risk of overtightening. On the flip side, higher real yields could drive more
growth volatility next year, potentially driving larger and sharper equity drawdowns.

Our S&P 500 volatility regime model, which aggregates macro, macro uncertainty
and market indicators, points to a continued high probability of the high vol
regime lingering (Exhibit 41). Across volatility regime indicators, macro uncertainty has
been elevated since the COVID-19 crisis but recently macro indicators have deteriorated
too as economic growth declined below potential (Exhibit 42). Increased market stress
and lower liquidity, in particular as central banks embark on QT, could also drive elevated
volatility.

28 November 2022 22
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 41: Our S&P 500 volatility regime model points to the high Exhibit 42: ...due to a worsening in macro, market and uncertainty
vol regime lingering... indicators
Probability of different S&P 500 vol regimes (green = low vol regime, Percentile for different indicators (data since 1990). Green = low vol
orange = high vol regime, dotted line = unconditional probability) regime, orange = high vol regime

100% 100%

90% 90%
80% 80%
70% 70%
60% 60%
50%
50%
40%
40%
30%
30%
20%
20%
10%
10%
0%
90 92 94 96 98 00 02 04 06 08 10 12 14 16 18 20 22 0%
Low vol regime High vol regime 1990 1994 1998 2002 2006 2010 2014 2018 2022
Avg prob. of S&P 500 low vol regime Avg prob. of S&P 500 high vol regime Macro indicators Macro uncertainty Market indicators

Source: Haver Analytics, Datastream, Consensus Economics, Goldman Sachs Global Investment Source: Haver Analytics, Datastream, Consensus Economics, Goldman Sachs Global Investment
Research Research
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Implied volatility across assets increased throughout 2022 but has declined
recently during the relief rally (Exhibit 43). Front-end rate volatility has led the broader
volatility reset: 2-year rate vol decreased more that 10-year rate vol, even though the
ratio of the two remains close to all-time highs (Exhibit 44). That said, implied vols
remain elevated compared with history, in particular for macro assets and for
China-exposed equities, where investor positioning has boosted call option prices
(Exhibit 47). Despite the increase in implied volatility YTD, ‘risk-off’ skew has significantly
cheapened across assets (Exhibit 45). Investors’ positioning has also become more
bearish this year (see the Multi-asset positioning section) leading to lower demand
and premium for downside protection as investors have purchased right-tail hedges
instead.

In our recent Balanced Bear Despair – Part 4 report we looked at tail risk

43b4ba46e812457c94ec14090904c026
management strategies. Equity options overlays offered a limited downside
protection YTD because of the gradual drawdown. Among cross-asset options,
USD/cyclical FX calls have been one of the best option overlays YTD – FX-implied vol had
also lagged other assets in the first half of the year (Exhibit 46). Calls on Gold paid off
during the first market leg down driven by geopolitical risk, but rising real rates have
been a headwind since then. With higher growth volatility next year, equity puts could
work better again. Equity options have also partially cheapened: the VIX is now trading at
around 20, close to this year’s lows, and the volatility risk premium has come down
since the start of the year.

28 November 2022 23
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 43: Cross-asset volatility has increased YTD Exhibit 44: Front-end rates vol led the recent volatility reset
10-year percentile of 3-month implied volatility
18.0 3-month implied volatility 1.6
100%

90%
16.0 1.4

80% 14.0
1.2
70% 12.0
1.0
60%
10.0
50% 0.8
8.0
40%
0.6
6.0
30%
0.4
20% 4.0

10% 2.0 0.2

100%
0%
Jan-20 Jul-20 Jan-21 Jul-21 Jan-22 Jul-22 0.0 0.0
90% 2000 2004 2008 2012 2016 2020
Equity Credit Rates Commodity FX
USD 2Y vs. 10Y rate (RHS) USD 2Y rate USD 10Y rate

Source: Goldman Sachs, Goldman Sachs Global Investment Research Source: Goldman Sachs, Goldman Sachs Global Investment Research

Exhibit 45: Skew has significantly cheapened across assets Exhibit 46: FX has been the best cross-asset option overlay YTD
S&P 500, SX5E, USD HY, WTI, Gold, USD/cycl. G10 Relative performance of 1-month, 25-delta option overlays vs. S&P 500
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120
0.45 S&P 500 Drawdown (+10%)
Average 3m normalised skew across assets 115
0.40
110
0.35
105

0.30 100

0.25 95

90
0.20 S&P 500 put (PPUT Index)
85 USD HY put (HYG)
0.15 US 20Y+ bonds call (TLT)
80 Cyclical FX/USD put
0.10 Gold call (GLD)
10 11 12 13 14 15 16 17 18 19 20 21 22 75
Jan-22 Mar-22 May-22 Jul-22 Sep-22 Nov-22

Source: Goldman Sachs, Goldman Sachs Global Investment Research Source: Datastream, Goldman Sachs, Goldman Sachs Global Investment Research

43b4ba46e812457c94ec14090904c026
Exhibit 47: Implied volatilities remain elevated, in particular for rates, FX and China equities
Equities Rates Credit Commodities Currencies
S&P EURO Nikkei FTSE MSCI China USD USD EUR EUR iTraxx EUR/ JPY/ GBP/
CDX IG CDX HY WTI Gold Copper
500 STOXX 50 225 100 EM large-cap 2-year 10-year 2-year 10-year Europe USD USD USD
Implied (3-month ATM, %)
Current: 20.2 18.5 17.1 14.1 22.0 35.9 9.3 8.2 8.2 8.1 48.7 49.2 56.3 49.7 14.8 29.5 10.2 12.3 11.7
Percentile: 83% 58% 27% 51% 74% 98% 97% 98% 96% 97% 56% 69% 63% 90% 53% 95% 85% 90% 89%
1M change: -5.7 -6.1 -5.1 -4.9 -4.9 -4.1 -0.3 -1.2 -1.5 -2.1 -7.3 -8.5 -9.9 2.4 -2.5 -0.6 -1.0 -1.2 -2.2
Average: 15.8 18.3 19.7 15.0 20.0 23.1 3.4 4.8 2.1 3.5 50.0 45.6 53.5 34.2 14.7 21.3 7.7 8.7 8.8
95th: 25.2 26.1 26.7 22.6 26.7 33.2 8.4 7.4 7.8 6.8 69.7 65.7 70.0 54.5 20.4 29.4 11.3 12.8 13.0
5th: 10.0 12.3 13.8 10.3 15.2 17.2 1.2 3.5 0.9 2.2 38.5 30.7 38.7 17.1 9.7 15.2 5.1 5.6 5.9
Realised (%)
1-month: 27.5 16.9 17.1 11.2 28.3 66.7 10.2 9.7 7.4 8.6 52.7 53.3 44.6 40.4 16.0 39.0 13.5 17.1 19.4
Percentile: 93% 58% 44% 40% 97% 99% 98% 99% 96% 98% 87% 93% 66% 69% 70% 99% 96% 97% 98%
Average: 14.7 17.7 19.8 14.3 14.4 24.3 3.1 4.6 1.5 3.2 39.6 33.8 42.5 37.6 14.4 19.8 7.4 8.3 8.5

Source: Goldman Sachs, Datastream, Goldman Sachs Global Investment Research

Opportunities and hedges into 2023

With the large decline in skew, collaring strategies (selling calls to buy puts)
currently appear very attractive for risk mitigation for equities – even outright
equity puts look more attractive. We like longer-dated structures: the rise in yields
and, consequently, in equity forwards YTD has cheapened the price of long-dated equity
puts compared with calls – 5-year collars on the S&P 500 are close to zero cost and
outright puts look cheap compared with history (Exhibit 48). Likewise, the divergence in

28 November 2022 24
 Goldman Sachs GOAL: Global Opportunity Asset Locator

US and Japan rates has widened the gap between the price of 5-year ATM calls on S&P
500 and Nikkei: selling one S&P 500 call can fund nearly 2 Nikkei calls (Exhibit 49).

While rates volatility has started to normalise compared with the S&P 500
volatility, it is still very elevated vs. non-US equities (Exhibit 50). Selling calls on
bonds to buy equity puts would have buffered the YTD equity drawdown: we like selling
volatility on front-end US rates (our rates strategists recommend selling 6m2y receivers)
to lower the cost of equity downside protection.

We continue to see value in FX option overlays – despite the strong USD

performance this year, the Dollar peak is likely to happen a couple of quarters into
2023. Commodity prices and monetary policy divergence next year are likely to be a
source of differentiation across G10 FX and to support FX realised volatility. While the
implied vol on USD crosses now looks more expensive, the implied vol on other ‘safe
havens’ (e.g. JPY and CHF) vs. cyclical crosses is lower relative to equity volatility
(Exhibit 51). Moreover, JPY/USD could rally by 10-15% in the event of a US recession.
Lastly, calls or risk-reversals on Gold look attractive – our commodities team think that
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Gold appears more asymmetric from here depending on real yield shifts and in particular
it can offer protection in the event of an escalation of geopolitical risk.

Exhibit 48: Long-dated collars on the S&P 500 have cheapened Exhibit 49: You can buy almost 2 long-dated calls on Nikkei for
significantly due to lower skew and higher rates each call sold on S&P 500
Annualised price of a 5-year option as % of spot 8% Annualised price of a 5-year ATM spot option as % of spot 2.0
7%
7% 1.8
6%

5% 6% 1.6

4% 5% 1.4

3% 4% 1.2

2%
3% 1.0
1%
2% 0.8
0%

43b4ba46e812457c94ec14090904c026
1% 0.6
-1% 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022
2003 2005 2007 2009 2011 2013 2015 2017 2019 2021 Nikkei 225 call S&P 500 call # of Nikkei calls purchased for
S&P 500 100% put S&P 500 100%/130% collar S&P 500 90%/140% collar each S&P 500 call sold (RHS)

Source: Goldman Sachs, Goldman Sachs Global Investment Research Source: Goldman Sachs, Goldman Sachs Global Investment Research

Exhibit 50: Rates vol is elevated compared with non-US equity vol Exhibit 51: Safe FX and Gold vol look relatively cheap vs. equity
3-month implied volatility 25-delta risk-off implied vol. Percentile since 2007
0.65 0.50 100%
USD/cyclical FX vol vs. S&P 500 vol
90%
0.45
0.55 JPY&CHF/cyclical FX vol vs. S&P 500 vol
80%
0.40 Gold vol vs. S&P 500 vol
70%
0.45
0.35
60%

0.35 0.30 50%

40%
0.25
0.25
30%
0.20
20%
0.15 USD 10Y rate vol vs. S&P 500 vol
0.15
10%
USD 10Y rate vol vs. non-US equity vol (RHS)
0.05 0.10 0%
2006 2008 2010 2012 2014 2016 2018 2020 2022 Jan-20 Jul-20 Jan-21 Jul-21 Jan-22 Jul-22

Source: Goldman Sachs, Goldman Sachs Global Investment Research Source: Goldman Sachs, Goldman Sachs Global Investment Research

28 November 2022 25
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Equities (3m UW & 12m N): Bear with it

We are UW for 3m and N for 12m as we think conditions for an equity trough have
not yet been reached. We expect markets to transition to a ‘Hope’ phase at some
point in 2023 but from a lower level. We forecast low earnings growth across
markets and flat returns in US equities over 12m – we are UW the region for 3m
and 12m. We see better returns for non-US markets, and we are OW Asia, N
Europe. For 3m we are UW Europe due to recession and energy crisis risks.

Bear with it — why we remain cautious

The bear market is not over, in our view. MSCI AC World is down 19% on the year,
largely driven by rising interest rates. That said, most of the fall came early in the year.
Equities are up nearly 5% from their levels in June, despite real interest rates in the US
having increased by close to 85bp since then and US 10y yields rising by more than
50bp.
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The speed of the rise in interest rates (rather than their absolute level) has the
potential to do more damage. We continue to think that the near-term path for equity
markets is likely to be volatile and down before reaching a final trough in 2023. So while
near-term risks are to the downside in global equities, it is likely that they enter a ‘Hope’
phase in 2023; we expect overall returns between now and the end of next year to be
relatively low (Exhibit 52).

Exhibit 52: Key market forecasts

3-month 12-month 2023
Price Return Price Return Total return EPS Forecast
Current Level Wgt Local USD Level Wgt Local USD Local USD Growth
MSCI Asia Pac ex Japan 496 510 OW 4% 3% 550 OW 10 % 11 % 13 % 14 % 3%
TOPIX 2019 2000 OW (1)% (12)% 2200 OW 9% 8% 10 % 8% 3%
STOXX Europe 600 441 390 UW (12)% (20)% 450 N 2% 3% 6% 7% (8)%

43b4ba46e812457c94ec14090904c026
S&P 500 4027 3600 UW (11)% (11)% 4000 UW (1)% (1)% 1% 1% 0%

Source: Datastream, Goldman Sachs Global Investment Research

In real time, it is difficult to distinguish between a rally in a bear market and a

genuine recovery from a trough. Over the past few weeks a number of factors have
been more positive than investors feared a quarter ago (e.g. US inflation, European
weather, Russia’s partial retreat in Ukraine, US elections, China reopening, Biden/Xi
meeting) but the bear market is not over, in our view. We would characterise the current
bear market as ‘cyclical’. Cyclical bear markets are those that are driven predominately
by the economic cycle and by rising interest rates, driving fears of economic and profit
recession. In common with other cyclical bear markets, these falls have also come in
phases interrupted by several sharp rallies.

The conditions that are typically consistent with an equity trough have not yet
been reached. In particular:

1. Valuation — further downside risks. Valuations in equities have fallen a long way
since the beginning of this year but this doesn’t mean to say they are cheap. The

28 November 2022 26
 Goldman Sachs GOAL: Global Opportunity Asset Locator

problem is that the de-rating has come from an unusually high peak supported by record
low interest rates. Rising interest rates, even before we assess the deteriorating path
for growth and higher levels of uncertainty, should push valuations lower (Exhibit 53).
So, the rise in real rates would imply lower valuations are still likely. As inflation pulls
back but the Fed stays the course, real rates are at risk of rising again. A further
complication is that, while many equity markets around the world are trading at low
valuations, the US is not (Exhibit 54) – risk-free rates and credit markets now offer an
attractive alternative to equities.

Exhibit 53: S&P valuations remain vulnerable to rising yields Exhibit 54: Valuation ranges (MSCI Regions) over a 20-year timeline
S&P 500 12m fwd P/E and US 10y Real Yield (RHS, Inverted) 12m fwd P/E multiple

24.0 -1.5% 20
Interquartile range Median Current 10th - 90th percentile

S&P 500 12m fwd P/E -1.0% 18

22.0
17.3
-0.5%
20.0
16
15.3
0.0% 14.7
14
18.0
0.5% 12.6
12.1
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12 11.8
16.0
1.0% 10.9
US 10y Real Yield 10
14.0 9.5
(RHS, Inverted) 1.5%

8
12.0 2.0% USA The World AC World Japan APxJ Dev. EM United
16 17 18 19 20 21 22 Europe Kingdom

Source: FactSet, Goldman Sachs Global Investment Research Source: FactSet, Goldman Sachs Global Investment Research

2. Positioning — equity fund flows remain strong. Certainly, there are areas of risk
that have moderated (see Positioning section) but equity flows, curiously, have not and
these remain robust, particularly in the US. We expect to see more signs of capitulation
in risk assets before a trough is established. Moreover, our Bull/Bear Market index
(GSBLBR) remains at elevated levels (61st percentile), suggesting capped returns over
the medium term.

43b4ba46e812457c94ec14090904c026
3. Growth momentum — further deceleration likely to be priced. We have argued
that equities tend to generate higher prospective returns when growth is weak than
when it is strong. That said, timing is everything. A weak economy that is still
deteriorating is very different from an economy that is getting less bad (Exhibit 55).
While we are likely to transition into the phase of improving growth momentum at some
point in 2023, the nearer term looks less promising. Tight financial conditions imply
more weakness to come in the ISM, for example – even after the recent easing in
financial conditions following the better than expected inflation data (Exhibit 56).

4. Peak in interest rates — further rate rises likely. We have no doubt that an easing
of interest rate expectations – either triggered by lower inflation components or more
dovish policy guidance – is likely to provide relief in risk assets. But there remain two
further issues. First, any significant rally would ease financial conditions prematurely.
Second, even if investors are confident that they have adequately priced the peak in
interest rates, it remains unclear how long they will remain at these levels. Our
economists expect no rate cuts before 2024. Historically, equity markets are likely to
recover close to the peak in interest rates and inflation, but they often weaken into the
final rate rises as growth expectations deteriorate.

28 November 2022 27
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 55: Weakest returns tend to be when the economy slows Exhibit 56: Tight financial conditions imply more weakness to come
from peak towards contraction in the ISM
GS FCI y/y change advanced 6m and ISM Manufacturing
2.0 % Average monthly S&P 500 return -5% 65
1.6 % by ISM cycle phase since 1980 GS FCI y/y chg (%) Inverted
-4% Advanced 6m
1.5 %
1.2 % -3% 60

1.0 % -2%
0.6 %
-1% 55
0.5 %
0%

0.0 % 1% 50

2%
(0.5)% 3% 45
(0.4)%
ISM Manufacturing (RHS)
4%
(1.0)%
Trough to 50 50 to peak Peak to 50 50 to trough 5% 40
11 12 13 14 15 16 17 18 19 20 21 22 23
ISM cycle phase

Source: Datastream, Goldman Sachs Global Investment Research Source: Bloomberg, Haver Analytics, Goldman Sachs Global Investment Research

What do we like? Quality & Value

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Since the beginning of 2022, we have argued that there is a material change in the
fundamentals driving the market and that we were approaching a time for value. Higher
rates should reverse some of the conditions that drove one of the longest periods of
‘growth’ outperformance relative to Value in history (Exhibit 57).

Exhibit 57: We have been approaching a time for Value

MSCI Indices. Relative price performance in local currency*

180
Growth Outperforming
170
160 World Value vs. Growth

150
140
130

43b4ba46e812457c94ec14090904c026
120
110
100
90
80
70
60
1975 1980 1985 1990 1995 2000 2005 2010 2015 2020

*Monthly Frequency until 1996. Daily Frequency from 1997 onwards

Source: Datastream, Goldman Sachs Global Investment Research

We would argue that the binary approach to looking at either Growth or Value is
no longer the correct one. We continue to focus on a barbell approach: combining
quality, strong balance sheet and stable margin companies with deep value, energy and
resources, where valuation risks are limited. We like companies that can compound
earnings and returns through a combination of reinvestment and dividends over time. In
contrast to the last cycle, more diversification across styles and regions, as well as a
greater focus on valuation, should enhance returns over the course of 2023.

28 November 2022 28
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 58 highlights possible implementations of the themes we like for the

Post-Modern Cycle.

n Global: Global Equity Strategy - 2023 Outlook: Bear with it, 21 Nov. 2022
n US: 2023 US Equity Outlook: Paradise Lost, 22 Nov. 2022
n Europe: Europe Equity Strategy - 2023 Outlook: Value in a Bear Market, 22 Nov.
2022
n Japan: Japan Portfolio Strategy - 2023 Outlook: Expectations of a mid-year
monetary policy pivot to encourage foreign inflows and 2H risk-on, 20 Nov. 2022
n EM: EM Market Outlook 2023 - Resilience Behind, Restrained Upside Ahead, 22
Nov. 2022
n Asia: Asia-Pacific Portfolio Strategy - 2023 Outlook: Northward shift as markets
anticipate reopening and recovery, 18 Nov. 2022
n China: 2023 China Equity Outlook: Investing in a new political regime as China
reopens, 18 Nov. 2022
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Exhibit 58: Possible implementations of the themes we like

Inflation & Positive Interest Government Intervention &
Regionalisation Scarce & Expensive Resources Margin scarcity
Rates CAPEX Spending

High & Stable Margins

Dividend Yield High & Stable Margins
Global: GSWDMARG
US: GSTHCASH Domestic Consumption Global: GSWDMARG Fiscal Infrastructure
US: GSXUSHGM *
Europe: GSSTDIVY Asia: GSSZDOMC Europe: GSSTMARG China: GSSRCNIF *
Europe: GSSTMARG
Asia: GSSZDIVY Asia: GSSZHMGN
Asia: GSSZHMGN

Renewable Energy
Dividend Growth
Energy Efficiency Energy Efficiency Global: GSWDRNEW GRANOLAS
US: GSTHDIVG
Europe: GSXEEFFI * Europe: GSXEEFFI * Europe: GSSBRNEW Europe: GSXEGRAN *
Europe: GSSTDIVG
Asia: GSSZEVMT

[AVOID] High
Labour Cost
Renewable Energy
Short Duration US: GSTHHLAB High Capex and R&D Stable Growth
Global: GSWDRNEW
Asia: GSSZSDUR Europe: GSXEWAGE * Asia: GSSZCAPX Asia: GSSZSTGW
Europe: GSSBRNEW
UK: GSXEUKWG *

43b4ba46e812457c94ec14090904c026
Strong Balance Sheet
Energy Efficiency
US: GSTHSBAL
Europe: GSXEEFFI
Europe: GSSTSBAL

[AVOID] Weak Balance Sheet

Defence
US: GSTHWBAL
Europe: GSSBDEFE
Europe: GSSTWBAL

Tickers marked with an asterisk are for baskets that are structured and maintained by the GS Global Markets Division.

Source: Goldman Sachs, Goldman Sachs Global Investment Research

Contributors: Peter Oppenheimer, David Kostin, Tim Moe, Sharon Bell, Kinger Lau,
Ceasar Maasry, Ben Snider, Bruce Kirk, Guillaume Jaisson

28 November 2022 29
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Government Bonds (3m UW & 12m N): Chasing neutral

With the current year producing the largest losses in fixed income in the past few
decades, we see the duration portion of investor portfolios producing
flat-to-modestly positive returns in 2023 (Exhibit 59), despite higher yields.
Although we are moderately constructive on fixed income over the course of the
coming year, we retain a bearish bias on duration near term. In particular, our
projections are substantially above forwards over the next six months, as we
believe investors underestimate the risk of cycle extension. Our YE2023 forecasts
for key 10-year yields are: US 4.3%, Germany 2.75%, UK 4.0%, and Japan 0.25%.

Central banks closer to the end (or a pause)

Following a year of aggressive central bank tightening, we expect to see progress on
two key fronts. We believe lower growth rates should create some slack in the labour
market and that inflation is likely to decline substantially from current elevated levels,
much above central banks’ targets. In a context where policy makers probably view
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current policy settings as exceeding “neutral” levels, we thus look for a broad-based
shift towards a more measured approach to policy tightening.

However, we also think that a step down in the pace of hikes is likely to be
accompanied by higher terminal rates to varying degrees in different jurisdictions,
as anticipated to some extent by markets. In the US, while we do expect to see
improvement in inflation, we think that, given the strength of the US economy, markets
are both simultaneously underpricing the risk of cycle extension, and overestimating the
odds of cuts immediately after the peak. For that reason, we continue to recommend
short SFRZ3 positions. In Europe and the UK the possibility of cycle extension stems
from the view that a central bank pause may reflect risk management considerations
(such as mortgage payments, or debt sustainability) to a broader extent than in the US,

43b4ba46e812457c94ec14090904c026
and comparatively less positive signals from spot inflation.

Exhibit 59: We expect total returns from holding Treasuries to turn Exhibit 60: US Treasuries yields have tended to hit their cycle highs
positive next year after significantly negative returns in 2022 when the Fed pauses
Yearly total returns to holding 10y USTs, basis points running Median change in 2y and 10y UST yields, indexed to final pre-pause Fed
hike*, conditioned on whether cuts occur within a 6m window

% 10y UST (cuts) 10y UST (no cuts) %

250 bp 215 bp 250
206 0.2 2y UST (cuts) 2y UST (no cuts) 0.2
200 200

150 128 129 127 131 150 0.0 0.0

107
Projected
100 73 100
54 -0.2 -0.2
39 47 40
50 32 34 50
19 17
6
-0.4 -0.4
0 0

-50 -50 -0.6 -0.6

-45
-100 -61 -100
-81
-0.8 -0.8
-150 -150

-200 -200 -1.0 -1.0

-188 -42 -21 0 21 42 63
-250 -250 Days around last Fed hike
03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22 23

Source: Goldman Sachs Global Investment Research *pause defined as last of a series of hikes, with no additional hikes in the subsequent six months

Source: Goldman Sachs Global Investment Research, Haver Analytics

28 November 2022 30
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Global duration: Trading the peak

As we show in Exhibit 60, bond yields have tended to hit their cycle (or local) highs
when central banks have paused or ended tightening. For that reason, we forecast
10-year UST and bund yields to peak in Q2 next year at 4.5% and 2.75%
respectively. As central banks are likely to be on hold by that point, we expect the risk
premium component to be the main driver of nominal yields, with comparatively little
role for the rate expectation component. With clearer progress on inflation, the scope
for a decline in UST yields looks greater than for bunds or Gilts.

More specifically in the US, we have previously argued that investors appear to be
placing too much weight on Fed projections and recent history when forming their
beliefs on the “long run” rate. We think this opens the door for an eventual reappraisal
higher of long-end forwards, such as 5y5y. Combined with the potential for Fed cuts to
be priced out, this supports our view of modest headwinds to US duration in the next 6
months. In Europe, we see clear upside to bund yields on the back of elevated issuance
needs, upside risk to traded inflation, and a more aggressive ECB balance sheet policy –
with QT to start in 2Q2023, and an important liquidity drain as TLTRO loans are repaid.
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From a flattening to a steepening bias

Yield curves have flattened globally through this year as policymakers have front-loaded
hikes and, in many cases, are close to or at multi-decade lows. Although there is a risk
of cycle extension, we believe the bear-flattening trend observed in many regions
this year has likely run its course. The main reason for this is the downshift in the
pace of hiking, which we have argued reduces the likelihood of deeper inversion.

In the US, Fed hikes in the early part of the year should see sticky yield curves even as
the level of rates increases, in line with recent behaviour (Exhibit 61). That is because a
slower cycle should give investors time to observe the impact of tightening and update
their priors on the neutral rate, keeping the betas between intermediate forwards and

43b4ba46e812457c94ec14090904c026
front-end rates elevated. Beyond the Fed pause, however, while we do see scope for a
more sustained curve steepening, the magnitude of this move steeper will crucially
depend on the outlook for the economy. With a resilient US economy, and given the
recent experience with inflation, we are sceptical of Fed cuts justifying the current levels
of one year forward steepness in 2s10s. In Europe and the UK, more constrained central
banks, elevated issuance needs compounded by QT, and higher inflation risk premium,
bias the curve steeper in our view.

European traded inflation set to exceed the US

Having hit multi-decade highs across most of G10 this year, our economists expect
inflation to normalise towards more target-consistent levels in next year. Differences in
the pace and timing of the expected moderation and central banks’ risk management
considerations will be central to the evolution of traded inflation across markets.

We see three reasons for a more bullish inflation assessment of traded inflation in
Europe. First, like the Fed, the ECB has signaled an inclination to slow the pace of hikes,
even though spot inflation is likely to remain elevated for a while. Second, in contrast to
the relative alignment of the market and our economists’ inflation profile in the US, the

28 November 2022 31
 Goldman Sachs GOAL: Global Opportunity Asset Locator

HICP market is implying a much swifter softening in inflation than they anticipate, pricing
6.1% by the middle of 2023 versus our economists’ forecast of 8.5% (Exhibit 62). Third,
energy price caps will exert downward pressure on headline inflation in the near term,
but also argue for more support to core inflation and a more gradual softening in the
medium term. Given the above justifies a higher inflation risk premia in Europe in
our view, we recommend going long 5-year HICP swaps versus US CPI swaps.

Exhibit 61: The US curve has become stickier even as the terminal Exhibit 62: Euro area HICP swaps imply a far more rapid moderation
rate has repriced higher than our economists’ projections, unlike the US, where the two are
USD 2s10s OIS vs terminal rate roughly similar
Market-implied vs GS forecast y/y inflation path

bp bp % US (actual) US (Mkt) US (GS Fcst) %

40 40 14 EUR (actual) EUR (Mkt) EUR (GS Fcst) 14

20 20 12 12

0 0 10 10

-20 -20
8 8
-40 -40
6 6
-60 -60
For the exclusive use of [email protected]

4 4
-80 -80

-100 -100 2 2

-120 -120 0 0
2.5 3.0 3.5 4.0 4.5 5.0 5.5 Jan-22 Apr-22 Jul-22 Oct-22 Jan-23 Apr-23 Jul-23 Oct-23

Source: Goldman Sachs, Goldman Sachs Global Investment Research Source: Goldman Sachs, Goldman Sachs Global Investment Research

Quantitative tightening to extend past hiking cycles

We expect QT to be an important backdrop for G10 markets in the upcoming year, with
a significant decline in central bank balance sheet size from COVID highs (Exhibit 63).
Different approaches to QT implementation imply varying market consequences. But
generally speaking, as QT shifts the burden towards private buyers, we expect
sovereign bond free float to rise, higher government funding costs and tighter swaps
spreads. The loss of a backstop buyer should also keep liquidity conditions poor, leaving

43b4ba46e812457c94ec14090904c026
already challenged market functioning vulnerable.

In the US, our baseline expectation is that Fed QT continues in its current form, with
$60bn and $35bn monthly caps on Treasury and MBS runoff, respectively. While the
Treasury caps will be hit reliably through next year, organic MBS runoff will likely be
below the caps—we expect the Fed’s balance sheet to shrink by around $1trn next year.
In Europe, our economists expect QT to start in 2Q23 via passive run-off of the PSPP
portfolio. We thus estimate that the ECB’s sovereign bond portfolio will shrink by about
€150-200bn over 2023, including a roughly €50bn decline in holdings of German bonds.
It is worth noting that Euro area QT will come in the wake of a sharp liquidity drain due
to TLTRO loan repayments. We expect the resulting balance sheet shrinkage to be a
headwind for both duration and sovereign credit. In the UK, BoE communication
suggests a firm intention to press ahead with a £80bn reduction (roughly half of which
via active sales) in the stock of Gilt holdings over the coming 12 months in spite of
recent volatility. The potential unwind of the recent £19bn-worth of financial
stability operations represents an additional risk. Combined with elevated
duration supply, we expect BoE QT to rebuild term-premium.

28 November 2022 32
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Transitioning to a lower rate volatility regime

Although we believe interest rates have not yet peaked, we see a case for a sustained
downshift in rate vol. The main reason for that is the step down in the pace of hiking
across G10, lowering the right tail around how high rates could plausibly rise in the near
term, while also compressing the left tail on diminished risks of overtightening.

The case for a sustained reduction in rate vol is strongest in the US, where upper
left vol has been noticeably directional with front-end curve steepness (Exhibit 64).
Besides, Fed officials have made the case for slowing down the pace of hikes
irrespective of how data evolve, and the October CPI print has on the margin
strengthened the case for a more gradual path moving forward. The ECB appears
similarly inclined to slow the pace, but has not yet received the same sort of support
from declines in spot inflation; as a result, we see scope more for (inflation) risk premia
fluctuations in the Euro area.

We see three main risks to our lower rate volatility view. First, quantitative tightening
may support realised vol by challenging already poor liquidity conditions. Second, though
For the exclusive use of [email protected]

not our base case, a sharp decline in activity would open the door to significant rates cut
being priced. Third, risks of external spillovers continue to be large, including potential
surprises on fundamentals or adjustments to policies such as the YCC in Japan.

Exhibit 63: Our expectations for QT imply a material reduction in Exhibit 64: Upper left US vol has been fairly directional with the
central bank balance sheet sizes next year slope of front-end pricing, suggesting scope for further moderation
BoE, ECB and Fed balance sheet as % of nominal GDP with YE22 and as hikes slow
YE23 projections 1m/3m1m OIS curve slope vs 3m2y USD implied vol

% BoE ECB Fed % bp 1m/3m1m OIS curve 3m2y Implied vol (rhs) abp
70 70 160 200

140 180
60 60
120
160
50 50
100
140
40 40 80

43b4ba46e812457c94ec14090904c026
120
60
30 30
100
40
20 20
20 80

10 10 0 60
Pre-COVID YE-21 YE-22 YE-23 Nov-21 Jan-22 Mar-22 May-22 Jul-22 Sep-22 Nov-22

Source: Goldman Sachs Global Investment Research, BoE, ECB, Federal Reserve Source: Goldman Sachs Global Investment Research

Wider European sovereign spreads

The repricing wider in sovereign spreads YTD has generally tracked the repricing of
duration, with spreads largely widening according to their beta to bund yields. As we
move through the winter – despite a declining impact and explanatory power of changes
in 1y1y ESTR (Exhibit 65) – we expect the repricing in European duration to be a catalyst
for a first leg wider in spreads. Beyond, lasting scarring effects of the energy crisis,
elevated issuance needs, the activation of QT by the ECB, and uncertain foreign investor
appetite for fixed income securities (Exhibit 66) all constitute continued headwinds to
sovereign credit, despite a more neutral outlook for duration.

Country-wise, high reliance on gas suggests the growth outlook is most at risk in Italy.

28 November 2022 33
 Goldman Sachs GOAL: Global Opportunity Asset Locator

France is less dependent on gas, but a comparatively much slower debt consolidation
beyond 2023, especially when combined with the potential for political gridlock, present
risks to OATs. In that set-up, Spain is a relative bright spot relative to its EMU-4 peers
given its more friendly energy profile and better fiscal path. Our end-2023 targets for
10y OAT-Bunds, BTP-bunds, and Bonos-Bunds are at 65bp, 260bp, and 130bp.

Exhibit 65: Policy rate expectations are losing their power in Exhibit 66: Japanese buying of OATs is sensitive to hedging costs,
explaining sovereign spreads political risk
Regression of sovereign spreads on 1y1y ESTR

bp/bp % EUR bn OAT purchases (6m rolling sum) JPY-Hedged OAT yield %
0.30 25 Yield pickup vs JGB
40 1.5
Beta R-squared (RHS)
0.25 30
20
1.0
0.20 20
15
0.5
0.15 10
10
0 0.0
0.10

5 -10
0.05 -0.5
-20
0.00 0 2017 Presidential
-1.0
Sep-21 / Since then Sep-21 / Since then Sep-21 / Since then Sep-21 / Since then -30 Elections
Jun-22 Jun-22 Jun-22 Jun-22
For the exclusive use of [email protected]

Netherlands France Spain Italy -40 -1.5

2015 2016 2017 2018 2019 2020 2021 2022

Source: Goldman Sachs, Goldman Sachs Global Investment Research Source: Goldman Sachs, Goldman Sachs Global Investment Research

G10 rates forecasts: above forwards across the G10

Exhibit 67: G10 yield forecasts and deviation from forwards

G10 10-Year Yield Forecasts
USD DEM GBP JPY CAD CHF SEK NOK AUD NZD
Current 3.72 1.97 3.12 0.25 2.95 1.07 1.97 3.17 3.57 4.11
1Q23 4.35 2.75 4.00 0.25 3.70 1.60 2.45 3.75 4.25 4.75
2Q23 4.50 2.75 4.00 0.25 3.80 1.60 2.45 3.75 4.40 4.75
3Q23 4.40 2.75 4.00 0.25 3.75 1.60 2.45 3.75 4.40 4.60
4Q23 4.30 2.75 4.00 0.25 3.65 1.50 2.35 3.65 4.30 4.50
1Q24 4.20 2.60 3.90 0.25 3.60 1.50 2.35 3.65 4.20 4.35

43b4ba46e812457c94ec14090904c026
2Q24 4.10 2.50 3.80 0.25 3.55 1.50 2.35 3.60 4.10 4.25
3Q24 4.05 2.25 3.75 0.25 3.50 1.45 2.30 3.55 4.00 4.20
4Q24 4.05 2.25 3.75 0.25 3.45 1.45 2.30 3.50 4.00 4.20
1Q25 4.05 2.25 3.75 0.50 3.45 1.40 2.25 3.45 4.00 4.20
2Q25 4.05 2.25 3.75 0.50 3.45 1.40 2.25 3.45 4.00 4.20
3Q25 4.05 2.25 3.75 0.50 3.45 1.40 2.25 3.40 4.00 4.20
4Q25 4.05 2.25 3.75 0.50 3.45 1.40 2.25 3.40 4.00 4.20
1Q26 4.05 2.25 3.75 0.50 3.45 1.40 2.25 3.45 4.00 4.20
2Q26 4.05 2.25 3.75 0.50 3.45 1.40 2.25 3.45 4.00 4.20
3Q26 4.05 2.25 3.75 0.50 3.45 1.40 2.25 3.40 4.00 4.20
4Q26 4.05 2.25 3.75 0.50 3.45 1.40 2.25 3.40 4.00 4.20

Deviation from Forwards

USD DEM GBP JPY CAD CHF SEK NOK AUD NZD
1Q23 0.64 0.76 0.84 -0.10 0.77 0.56 0.56 0.60 0.59 0.63
2Q23 0.81 0.76 0.83 -0.14 0.91 0.56 0.58 0.60 0.71 0.63
3Q23 0.73 0.77 0.79 -0.19 0.89 0.55 0.61 0.61 0.68 0.47
4Q23 0.64 0.79 0.78 -0.24 0.82 0.45 0.54 0.53 0.55 0.36

Source: Goldman Sachs Global Investment Research, Bloomberg

For details see: 2023 Global Rates Outlook: Chasing Neutral, November 21, 2022

Contributors: Praveen Korapaty, George Cole, William Marshall, Simon Freycenet,

Ravi Raj

28 November 2022 34
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Credit (3m OW & 12m N): There will be yield

We expect credit spreads to widen modestly from their current levels in 2023, with
the bulk of the widening taking place in the first quarter as central banks continue
to hike, albeit at a slower place. Owing to the carry component of returns, we
expect low, but positive, excess returns, while total returns will likely feature a far
more pronounced improvement in performance. Our core message on relative
value is to be long “good carry” and mostly “up-in-quality”. A key risk for the year
ahead is secondary bond market liquidity, which remains a known unknown.

DM Credit: Solid total, low but positive excess returns, elevated dispersion
Our core message throughout the year has been that, barring a material reset in
valuations or convincing signs of improvement in the interaction between the inflation
backdrop and the policy path, spreads would continue to build more premium and drift
wider. The timing and the magnitude of this improvement remains uncertain, but our
best guess is that risk sentiment will eventually recover in early 2023 as the soft-landing
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path in the US becomes more visible. That said, we continue to think that the
asymmetry remains negative in the medium term, as the prospect of an extended
hiking cycle will likely act as a constraint on any easing in financial conditions.

Directionally, we forecast USD and EUR spreads will finish 2023 modestly wider,
with the bulk of the widening in Q1 (Exhibit 68). After accounting for the carry
component, our forecasts imply that excess returns will be positive next year
(Exhibit 69). For total return investors, 2023 will likely feature a far more pronounced
improvement in performance after this year’s historic plunge in bond prices (Exhibit 70).
Given the significant improvement in the level of yield support provided by the USD and
EUR markets, we project total returns will settle at the high end of their historical range,
especially by the standards of the post-global financial crisis period (Exhibit 71). We also

43b4ba46e812457c94ec14090904c026
expect the high dispersion regime that has prevailed this year to extend into 2023 with
idiosyncratic risks remaining in focus as corporate borrowers adjust to a higher-for-longer
cost of capital environment.

Exhibit 68: USD and EUR spreads to end 2023 modestly wider Exhibit 69: Excess returns will likely be positive next year...
USD and EUR spread forecasts USD and EUR excess return forecasts
Updated through Nov 17, 2022 Updated through Nov. 17, 2022
Sector Excess return
Current 2022Q4 2023Q1 2023Q2 2023Q3 2023Q4 2022 YTD
Sector Current forecasts (%)
excess
USD spreads duration
return Rest of 2022 2023E
IG 138 150 180 170 160 150
USD excess returns
IG Fin 151 164 190 178 166 155
IG Non-Fin 129 142 170 165 155 148 Investment Grade 7.0 -1.9 -0.6 1.6
High Yield 459 490 600 575 550 500
High Yield 4.0 -3.2 -0.6 3.7
EUR spreads
EUR excess returns
IG 205 215 240 225 215 210
IG Fin 254 265 295 270 240 230 Investment Grade 4.9 -2.5 -0.2 2.5
IG Non-Fin 176 180 200 190 185 180
High Yield 3.3 -4.0 -0.3 5.6
High Yield 524 555 660 615 575 550

Source: Bloomberg, iBoxx, ICE-BAML, Goldman Sachs Global Investment Research Source: Bloomberg, iBoxx, ICE-BAML, Goldman Sachs Global Investment Research

28 November 2022 35
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 70: ...but total returns will feature a far more pronounced Exhibit 71: In both USD IG and HY, our 2022 full-year excess return
rebound after this year’s historic plunge forecasts are at the low end of the historical range
USD and EUR total return forecasts We use the sample period from 2000 through today
Updated through Nov. 17, 2022
Total return 35%
2023E: 6.8%
28%
Sector Current 2022 YTD forecasts (%) 30% 2023E: 24%
duration total return 11.9%
Rest of 2022 2023E 25% 20%
2022: ~ -11.6%
20% 2022: ~ -17.3% 16%
USD total returns
15% 12%
Investment Grade 7.0 -16.6 -0.6 6.8 10% 8%
5% 4%
High Yield 4.0 -11.3 -0.3 11.9
0% 0%
EUR total returns

[-3%, 0%)

[8%, 10%)

[-5%, 0%)

[5%, 10%)
<-10%

[10%, 15%)

<-10%

[10%, 15%)

[15%, 20%)
[0%, 5%)

[5%, 8%)

[0%, 5%)
[-5%, -3%)

>15%

>20%
[-10%, -5%)

[-10%, -5%)
Investment Grade 4.9 -13.5 -1.5 4.1

High Yield 3.3 -12.0 -1.1 8.7

IG (LHS) HY (RHS)
Distribution of annual total returns

Source: Bloomberg, iBoxx, ICE-BAML, Goldman Sachs Global Investment Research Source: Bloomberg, iBoxx, ICE-BAML, Goldman Sachs Global Investment Research

We also expect default rates for the USD HY and leveraged loan markets to tick up
from their extraordinarily low levels of the past two years. As Exhibit 72 shows, for
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the USD HY market we are forecasting an issuer-weighted default rate of 2.8%, on a

trailing 12-month basis, by the end of 2023. While this forecast does represent a large
uptick in defaults from the current 1.3% rate, the relatively strong balance sheet
fundamentals of many HY issuers should keep the USD HY default rate well below its
long-run average of 4%. That said, one pocket of the market where we do see elevated
risks is within leveraged loans. We forecast a default rate within the space to reach
3.5% by the end of 2023, higher than the historical average rate over the past 20 years
of just 2.5% (again, Exhibit 72). The main pillars underpinning this view are the leveraged
loan universe’s lower quality, in terms of ratings composition, and the floating-rate
nature of loans in the current higher-for-longer funding cost environment.

Exhibit 72: We expect USD HY and Leveraged Loan defaults rate to increase from their current
extraordinarily low levels

43b4ba46e812457c94ec14090904c026
16% HY Leveraged loans (RHS) 9%

Forecast 8%
14%

7%
12%
6%
10%
5%
8%
4%
6%
3%
4%
2%

2% 1%

0% 0%
1999 2002 2005 2008 2011 2014 2017 2020 2023

Source: Moody’s, S&P LCD, Goldman Sachs Global Investment Research

Based on the macro backdrop and our directional view on spreads, 2023 should

28 November 2022 36
 Goldman Sachs GOAL: Global Opportunity Asset Locator

provide ample opportunities for relative value. The over-arching theme being long
“good carry” and mostly “up-in-quality” and we express this via: 1. An Overweight
allocation on agency MBS vs. IG and Treasuries; 2. Overweight IG vs. HY in both USD
and EUR markets; 3. Overweight AT1s vs. EUR HY; 4. Overweight HY bonds vs.
leveraged loans; 5. Overweight low-price USD IG bonds vs. high-price peers; 6.
Overweight AAA-rated structured products in select segments vs. junior tranches and
USD IG. However, one area where valuations warrant a more nuanced approach is
within the USD HY market, where we recommend an allocation that is Underweight
BBs, Overweight Bs, and Neutral CCCs.

At a sector level within the USD HY and IG markets, we advocate for a defensive
posture. Aside from valuations, three pillars underpin our sector allocation
recommendation: 1. Earnings stability; 2. Operational agility; and 3. Liquidity strength.
We retain our preference for IG Banks, given valuations, strong fundamentals, and our
expectation of abating heavy primary market supply. We also continue to recommend a
neutral allocation on Energy, given valuations. In the USD IG market, we remain cautious
on cyclically exposed sectors such as Media & Entertainment and Autos, preferring
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more defensive sectors such as Healthcare, Telecommunications, and Cable & Satellite.
We hold a similar view in HY, favouring sectors such as Wirelines, Cable & Satellite, and
Healthcare over cyclically exposed sectors such as Technology, Media & Entertainment,
and Retail.

Secondary corporate bond market liquidity is still the known unknown. Aside from
a handful of episodes, secondary corporate bond market liquidity conditions have
generally held up better than many had expected over the course of 2022. In our view,
this resilience reflects to some extent the significant decline in primary market activity,
especially in HY where net supply is solidly on track to finish the year in negative
territory. Simply put, the bar is higher for risk intermediation to come under pressure if
bonds are naturally exiting the secondary market. But under the surface, and across the
variety of measures that we monitor, the picture is more mixed. For example, Exhibit 73

43b4ba46e812457c94ec14090904c026
shows that off-the-run bonds, which we define as bonds that are more than two years
old, have experienced a faster deterioration in liquidity vs. their on-the-run peers, as
evidenced by their higher Amihud price impact measures. In our view, we have yet to
fully realise the effects on market microstructure from both higher policy rates and
quantitative tightening as the Fed winds down its balance sheet. While this year has
provided reasons to err on the benign side, the ability of investors to transfer risk in an
orderly way will likely be tested next year.

28 November 2022 37
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 73: Off-the-run bonds have started to show signs of deteriorating liquidity
The 5-day moving average of the Amihud price impact measure, by bond age

2.5% 2.5%
Amihud 5-day moving average

Less than 6-months

2.0% 2.0%
More than 2-years

1.5% 1.5%

1.0% 1.0%

0.5% 0.5%

0.0% 0.0%
10 11 12 13 14 15 16 17 18 19 20 21 22
For the exclusive use of [email protected]

Source: TRACE, Dealogic, Goldman Sachs Global Investment Research

EM Sovereign Credit: Wider spreads, but high carry to drive positive total returns
2022 is on track to be the worst year for EM sovereign credit returns since the inception
of the asset class, reflecting the sharp rise in UST yields and a growing and wider left
tail on the spread component. However, reflecting the broader resilience across EM
assets, EM sovereign credit spreads have also been relatively resilient in 2022, although
on an index level this has been masked by an increasing skew of sovereigns entering
distress, which has pushed the EMBI Global Diversified spread ~130bp wider
year-to-date (Exhibit 74). Excluding sovereigns in distress, EM sovereign spreads are
now roughly flat year-to-date, and have outperformed similarly rated US corporate
spreads (Exhibit 75).

43b4ba46e812457c94ec14090904c026
Exhibit 74: The 2022 widening in EMBI spreads was mostly driven Exhibit 75: Excluding sovereigns in distress, EM sovereign credit
by a higher number of sovereigns entering distress outperformed US corporates in 2022

bp Difference: contribution to EMBIG-Div from sovereigns in bp 600 bp EM HY vs US HY bp 300

1000 distress (RHS) 180
EM HY BB/B vs US BB/B
EMBI Global Div. ex CCC & Defaulted Sovereigns 500 250
900 160 EM IG vs US IG (RHS)
800 400 200
EMBI Global Diversified Increasing share of 140
sovereigns in
700 distress 300 150
120
600 200 100
100
500 100 50
80
400
0 0
60
300
-100 -50
200 40 Outperformance of EM
-200 Credit -100
100 20
-300 -150
0 0
15 16 17 18 19 20 21 22
07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22

Source: Bloomberg, Goldman Sachs Global Investment Research Source: Haver Analytics, Bloomberg, Goldman Sachs Global Investment Research

The flip side of that resilience is a negative risk/reward for spreads heading into 2023.
For one, EM spreads now look more expensive according to our EM sovereign credit
model (which is a bottom-up framework linking sovereign spreads to macro and market
variables), both on current fundamentals and given the outlook for next year, where

28 November 2022 38
 Goldman Sachs GOAL: Global Opportunity Asset Locator

lower inflation is likely to be offset by slowing global growth (based on a combination of

consensus and IMF forecasts; Exhibit 76). Similarly, a top-down sensitivity analysis of
EM credit index-level spreads (excluding distress) suggests that, even under our
somewhat more benign forecasts for a non-recessionary slowdown in US growth,
combined with a weaker Dollar and higher UST yields, spreads would move slightly
wider next year (Exhibit 77).

Taken together, the next 12 months may see less resilience in spreads but overall
positive total returns as a modest spread widening is offset by the higher yield and
embedded duration exposure of the asset class. We forecast that the EMBI-Global
Diversified spread will widen by ~10bp next year, to 500bp. We therefore expect most
of the upside in EM credit to come from carry, and with the asset class now
yielding ~9%, this points to a total return of ~4% for the asset class as a whole next
year under our forecast for slightly wider spreads and higher UST yields.

Exhibit 76: EM sovereign credit looks slightly expensive relative to Exhibit 77: ...and our macro forecasts also point to a slight
fundamentals... widening of index-level spreads next year
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Other Index-level sensitivity to changes in growth, UST yields and

Marginal contribution to model- bp
bp EM Inflation DXY, scaled by GS forecasts for those variables:
Growth (EM + DM) implied spread bp
200 EMBI Global Div. Sovereign-only spread (Excl. Distressed) 500 15 EMBI IG
GS EMBI Global Div. Model-implied spread Wider spreads
F'Cast EMBIG-Div (Excluding CCC and Defaulted Sovereigns)
150
400 10 EMBI HY (BB and B-rated)
100

50 5
300
0
0
-50 200

-100 -5
100
-150
-10
EM Growth US Growth US 2y yields DXY Total
-200 0
17 18 19 20 21 22 23 GS Forecast (12 months ahead)

Source: Bloomberg, Consensus Economics, IMF WEO, Haver Analytics, Goldman Sachs Global Analysis is based on OLS regressions of monthly changes in the 6 month moving average of
index level spreads, to monthly changes in the 6 month moving average of GS EM CAI, US CAI,
Investment Research 2yr UST yields, and the DXY. Sensitivity is estimated from 2009-2019.

43b4ba46e812457c94ec14090904c026
Source: Bloomberg, Goldman Sachs Global Investment Research

For details see:

2023 Global Credit Outlook: There will be yield, Nov. 18, 2022

EM Market Outlook 2023: Resilience behind, restrained upside ahead, Nov. 22, 2022

Contributors: Lotfi Karoui, Michael Puempel (DM Credit); Sara Grut, Teresa Alves
(EM Credit)

28 November 2022 39
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Commodities (3m N & 12m OW): Looking past lockdowns

N commodities for 3m, OW for 12m, as we still see attractive return potential as
well as continued diversification benefits. Even as demand slowed recently, there
has been little inventory relief and micro fundamentals have remained tight.
Looking into 2023, micro and macro will likely reinforce each other again,
supporting the commodity complex. While near-term upside pressures on the USD
will likely prevail, the Dollar looks set to peak early next year as recession risks
subside and both Europe and China turn a corner. We also think Gold is
increasingly asymmetric with less downside in the event of rising real yields, but
strong upside with falling real yields.

Despite high volatility, commodities managed to deliver strong returns in 2022

with S&P GSCI total returns at 26% YTD. Importantly, 17% of this return performance
was created by the roll yield alone as most commodities were in backwardation due to
exceptionally tight inventories and low spare capacity. That said, 2022 has been a story
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of two halves, with commodities rallying in the first half but remaining under pressure
since June. This material repricing was driven by a weaker cyclical outlook due to Fed
rate hikes, a contracting EU economy and, lately, the sharp rise in Chinese lockdowns.

While micro fundamentals in commodities remained as tight as ever in 2H 2022,

we failed to appreciate the extent to which regional prices for commodities
denominated in local currencies could diverge on a global basis. A negative
feedback loop of diverging global interest rates, Dollar deleveraging and Dollar asset
deflation meant that the correlation between commodities, particularly oil, and the US
Dollar has undergone a profound shift in 2H2022, with commodities priced in US Dollars
significantly underperforming those priced in EUR, GBP or JPY. On the back of the
Dollar’s dominance, market liquidity fell in 2H2022, volatility rose and investor
confidence in the commodity outlook evaporated.

43b4ba46e812457c94ec14090904c026
Crucially, we believe this feedback loop is transient and not structural as, unlike in
2015, it is fighting fundamentals, not reinforcing them. Micro fundamentals remain
buoyant, indicated by backwardation and falling inventories despite substantially weaker
Chinese demand and increased Russian production ahead of Europe’s oil embargo.
Although the macro picture remains blurred, commodity markets, particularly oil, also
follow their own tempo, driven by micro fundamental factors and OPEC+ cuts, low
stocks and low spare capacity that is supporting prices. Even as demand slowed in
recent months, there has been little inventory relief as the structural supply story has
only strengthened. A case in point, total oil inventories in the OECD remain at record
lows as crude oil supply has continued to disappoint, as has the production of refined
petroleum products, especially diesel, copper and grains. Rising interest rates and the
energy crisis affecting regions outside the US are fundamentally deterring capex into the
capital-deprived sector, as are ESG concerns, creating permanent supply scarring.

We recently introduced a more cautious short-term bias to commodities. With global

central banks outside the US unable, or unwilling, to raise interest rates as fast as the
Fed, the upward pressure on the USD may continue for some time still. Another big

28 November 2022 40
 Goldman Sachs GOAL: Global Opportunity Asset Locator

uncertainty in the near-term outlook are China winter lockdowns that pose risks
to OPEX commodities such as oil. Looking into 2023, we believe the current clash
between a tight micro and weak macro will not only ease but the two will likely
reinforce each other again, shifting the correlation between commodities and FX back
into the right direction. While near-term upside pressures on the US Dollar will likely
prevail, the greenback is set to peak early next year as recession risks subside and both
Europe and China turn a corner. Moreover, we expect demand for commodities to
recover sequentially next year. That demand recovery requires a stable to weakening US
Dollar backdrop which creates more upside to commodities that are set to reverse the
headwinds from the previous year.

For those investors that cite falling commodity prices as a sign of physical abundance, it
is important to remember prices are simply a function of Dollars chasing barrels,
bushels or tonnes. Since Summer 2022, the fall in global money supply has accelerated
markedly, faster than commodities’ net inventory position as supply cuts are offset by a
sluggish China and a European commodity-constrained recession. As central banks
focused primarily on the inflation mandate, physical tightness and price rises in
For the exclusive use of [email protected]

commodities – retail gasoline and diesel in particular – were met with a stronger
response from the Fed, reduced money supply and a Dollar deflation of commodity
prices. In our view, this is one of the reasons why the market has not seen a persistent
reaction to OPEC’s production cut, and to us signals just how far markets are pricing off
money supply. Yet because there is a temporal mismatch between how interest rates
impact overall demand (unemployment) and commodity balances (demand-supply) in a
tight supply environment, there comes a time when money supply restrictions slow
while inventories remain tight. In this period, commodity barrels, bushels and tonnes
remain scarce but money availability rises, generating a price rally, just as we saw in
2008. Also, money supply stops mattering as much when commodity inventories
come close to depletion, as in the diesel market right now. Eventually as
commodity inventories keep falling, they could hit constraints in 2023 leading to

43b4ba46e812457c94ec14090904c026
idiosyncratic spikes higher.

Developments in China will remain key for the commodity outlook in 2023. Looking past
lockdowns, signs have begun to emerge that Chinese officials are preparing to unwind
zero-Covid policy (ZCP) next year. While we have seen substantial buying of deferred
metals contracts on the reopening theme, it is important to remember that lockdowns
curtail activity (OPEX), not investment (CAPEX). As a result, reopening would shift
onshore fundamentals more in OPEX commodities – LNG, crude and soybeans – than in
CAPEX commodities – ferrous, copper and aluminum. While oil demand is still 600kb/d
below our expected 4Q2022 level, we estimate that metals demand has been rising
since mid-2022 (aluminum +6%, copper 5%, yoy) as the third-largest stimulus in
Chinese history works to overcome the structural impediments on property by boosting
EV and green demand. As a result of property-offsetting stimulus and the smaller impact
that lockdowns have had on metals, we expect demand for metals to rise by 0.5% vs
nearly 15-20% for Chinese natural gas consumption as factories restart.

From a portfolio perspective, commodities have continued to outperform other

cyclical asset classes this year, outright and on risk-adjusted returns, and they

28 November 2022 41
 Goldman Sachs GOAL: Global Opportunity Asset Locator

remain a key asset class for diversifying portfolio risk. In our view, commodities, in
particular oil and pockets of the agriculture sector, offer investors opportunities for
portfolio diversification at a time when the tactical outlook for other asset classes
remains cautious, at best. What is more, inflation currently poses one of the largest
risks to a diversified 60/40 portfolio as central banks are extremely focused on returning
it to neutral levels in order to avoid a de-anchoring of inflation expectations. A sharp rally
in oil and agriculture prices into Q1 next year risks reigniting these inflation risks.
Commodity prices are, of course, particularly important in setting consumer inflation
expectations. Therefore, adding commodities exposure is as important as ever to hedge
risks of a further drawdown in financial assets.

Exhibit 78: The strong US Dollar continues to reduce liquidity, Exhibit 79: Commodities in JPY have outperformed the
which is a headwind for cyclical commodities Dollar-denominated S&P500 GSCI TR index
CFTC crude and products net specs Jan 2022 = 1

900 140 1.9 GSCI TR (USD) GSCI TR (EUR)

k lots Total Oil Net specs Brent (rhs) $/bbl
GSCI TR (CNY) GSCI TR (JPY)
1.8
800 120
1.7
100
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700 1.6

80 1.5
600
1.4
60
500 1.3
40
1.2
400 20 1.1

300 0 1

0.9
Jan-22 Mar-22 May-22 Jul-22 Sep-22 Nov-22

Source: CFTC, Goldman Sachs Global Investment Research Source: Bloomberg, Goldman Sachs Global Investment Research

Exhibit 80: Despite all the fundamental headwinds this year, Exhibit 81: Chilean mine production continues to disappoint amid
inventories remain at record lows in OECD widespread water shortages
OECD commercial stocks in days of OECD demand coverage vs. 5-yr avg Chile copper mine production (kt)
(lhs) vs. 1-mo to 3-yr Brent timespreads (%, rhs, inverted).

43b4ba46e812457c94ec14090904c026
20% -60%
kt Chile copper production kt
-50% 600 600
Chile copper mine production
15% -40% Last 7 year range (2015-2021)
-30% 2022
10% 550 Pre-COVID average 550
-20%
5% -10%
0% 500 500
0% 10%
20%
-5% 450 450
30%
-10% 40%
50% 400 400
-15% 60%

350 350
OECD stocks (DoDC) vs. 5-yr avg (3m lagged) Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
1-mo vs. 3-yr Brent timespread (rhs, inverted)

Source: IEA, ICE, Goldman Sachs Global Investment Research Source: Goldman Sachs Global Investment Research, Wind

Energy
We are tactically cautious, structurally bullish oil. In recent weeks, oil prices have
again succumbed to rising growth concerns and forward fundamentals due to
significant Covid case rises in China as well as a lack of clarity on the implementation of
the G7’s price cap. While a strong USD and falling demand expectations will remain

28 November 2022 42
 Goldman Sachs GOAL: Global Opportunity Asset Locator

powerful headwinds to prices, the structural bullish supply set-up for oil – due to the lack
of investment, low spare capacity and inventories – has only grown stronger, in our
view, inevitably requiring much higher prices. However, in the coming months we
expect demand to seasonally increase into peak winter heating demand, enhanced by
gas-to-oil switching. At the same time, we believe the EU embargo on Russian oil will
demand an unachievable redirection of flows causing Russian production to fall by 0.6
mb/d, at the same time as OPEC+ has agreed to an effective cut of 1.2 mb/d. Reflecting
this, oil markets have now pivoted into a larger-than-seasonal deficit, especially when
adjusting for the builds on water required to redirect Russian cargos from West to East.

Our global oil supply and demand balances reflect our estimate that – at our supply
expectations – current prices reflect negative real global GDP growth outside of China
and range-bound Chinese oil demand for the coming year. In China, we expect that
zero-Covid policies will remain in place through next summer. As a result, from the
current depressed level of positioning and prices, we reiterate our bullish price
view and expect Brent crude oil prices to average $110/bbl in 2023. At our updated
assumptions, it would take an economic hard landing in the US to justify sustained
For the exclusive use of [email protected]

lower prices.

In the case of US natural gas, we project a softer winter balance to reinforce our bearish
2023 Henry Hub view. That said, our Sum23 forecasts remain above $4/mmBtu as we
do not expect storage to hit containment levels, an out-of-consensus view. Domestic
production will likely respond to much lower gas prices yoy while we still see support to
demand next year from tight US coal markets. It’s not until 2024, when Permian gets
debottlenecked, that we see storage above 4 Tcf pressuring gas prices below $4 to look
for incremental coal-to-gas substitution to balance the market. That period of oversupply
doesn’t last, however, as significant incremental US LNG export capacity meaningfully
tightens the balance from the 2025 summer.

With regard to European natural gas prices, the combination of exceptionally mild

43b4ba46e812457c94ec14090904c026
weather, consumer savings and weak China LNG imports (leaving more supply to
Europe) has helped create a storage buffer that (1) has left NW Europe much better
protected against cold weather events this season and (2) allows Sum23 to balance at
higher demand levels than we had previously expected. We now see Sum23 TTF
prices averaging EUR180/MWh, still significantly above current forwards. In our
view, it would take extended warmer-than-average weather for the remainder of winter
or another year of lacklustre China growth for the market to balance at current 2023
forwards.

Precious metals
Gold has been volatile in 2022. It rallied in Q1 when growth and inflation concerns
emerged and it remained unclear how central banks would respond to them. When it
became clear that central banks had decided to prioritise inflation fighting over growth
support, gold fell in line with the rally in the USD and increase in US real rates. However,
despite 10-year real rates being 2.5% higher than a year ago, gold in USD is down only
3% YoY and is up in EUR, GBP and JPY. In our view, the reason for gold’s relative
outperformance is the limited scale of physical investor liquidation due to elevated

28 November 2022 43
 Goldman Sachs GOAL: Global Opportunity Asset Locator

recession risks and support from physical EM consumer and central bank demand. EM
central bank demand has been particularly strong with all-time record purchases in Q3.
In our view, the increase in central bank purchases is structural vs a one-off datapoint
and is a reflection of growing global geopolitical tensions which create demand for gold
as a politically neutral store of value.

Looking towards 2023, we believe gold offers an asymmetric payoff. It would likely
continue to be under pressure in the event of further hawkish Fed surprises or a US soft
landing but the scope of this downside would be limited due to already depressed
investor positioning and support from EM central bank purchases. But in the event that
a US recession leads to the Fed cutting rates, we believe gold could rally by 20-30%,
depending on the degree of these cuts, as investors would likely rush into an already
tight physical market. We therefore remain constructive on gold with a
probability-weighted 12m forecast of $1950/toz.

Base metals
Base metals saw strong returns in Q1 2022 as the Russia-Ukraine war heightened
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supply risks on already tight markets, before experiencing a sharp repricing lower
through mid-year on a combination of a strengthening Dollar, Europe’s energy crisis as
well as negative China growth sentiment amid the ZCP and continuation of the property
sector deleveraging. This downdraft in price primarily reflected the macro environment
rather than a deterioration in micro fundamentals, in our view. Indeed, metals demand
growth trends in China have remained healthy despite activity headwinds and metals
deficits have continued, as evidenced by visible inventories falling to record-low levels
on a consumption-weighted basis, both onshore and globally. Going into 2023, we
expect a modest softening trend in both copper and aluminium fundamentals, primarily
related to a slowdown in cyclically exposed sectors in the ex-China market on a
combination of financial tightening and higher energy prices. However, the degree of
softening will be mitigated by a combination of China reopening, continued strong

43b4ba46e812457c94ec14090904c026
growth in green demand set against restrained supply growth and low inventory cover.
With significant and open-ended deficit conditions expected to resume from 2024
onwards, we see metals currently in a trough phase before gathering momentum to the
upside over the course of next year. As such, we maintain our $9,000/t 12m price
target for copper and our $2,750/t 12m price target for aluminium.

Agriculture
Grains risk reaching extreme tightness if the Dollar partially reverses. Grain
markets, similar to oil, currently have extremely low inventory and very low beta to
global growth. Right now, US-traded prices of grains are sheltered by a very strong
Dollar, which makes US grain exports less competitive vs Latin America. This decreases
exports and eases the pressure on US stocks relative to grain stocks outside of the US.
But given the very fragile balance and low stock levels, any reversal in US Dollar
strength could tip the US market, which is ultimately where grain futures are traded,
into borderline constraints of very low stocks. While it is too early to have high certainty
on the Latin American crop this year, La Niña and a poor corn crop in Argentina create
downside risks to LatAm supply, further improving the asymmetry of being long

28 November 2022 44
 Goldman Sachs GOAL: Global Opportunity Asset Locator

soybeans and corn. Wheat looks relatively less compelling vs the other commodities, in
our view, due to a good crop in Russia and Australia, but remains supported on a high
geopolitical premium. We therefore recommend an OW in grains.

For details see: Commodity Views - Looking past lockdowns, September 27, 2022

Contributors: Jeffery Currie, Nicholas Snowdon, Samantha Dart, Sabine Schels,

Mikhail Sprogis, Callum Bruce, Daniel Sharp
For the exclusive use of [email protected]

43b4ba46e812457c94ec14090904c026

28 November 2022 45
 Goldman Sachs GOAL: Global Opportunity Asset Locator

FX: Waiting for a challenger

The US Dollar has had a very strong performance this year, from already-lofty
levels. While high valuations and a better global growth outlook have markets
searching for “peak Dollar”, we think the conditions for the “true” peak still look
likely to be a couple of quarters away – we find that peaks in the broad Dollar are
associated with a trough in measures of US and global growth, and an easing Fed.
With monetary policy set to downshift, China re-opening, and Europe navigating
through more lasting physical constraints, we expect an eventual peak in the US
Dollar and a more differentiated, tactical environment across Global FX in 2023 H2.

USD: In Thinner Air

The US Dollar has had a very strong performance this year, from already lofty levels,
taking broad Dollar overvaluation to the vicinity of prior peaks in the mid-1980s and early
2000s. This naturally puts the greenback into a more precarious situation. But the Dollar
still has a lot going for it: US activity and inflation have been remarkably resilient despite
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a barrage of rate hikes, helped in part by consumers dipping into still-substantial pent-up
savings in recent months. As a result, the Fed has acknowledged that the concept of a
“restrictive” policy rate is a moving target, and estimates of the cyclical neutral rate
have been moving higher. At the same time, we expect other central banks to be
increasingly hard-pressed to match the Fed’s pace. In brief, the Euro area still faces stiff
headwinds from energy shortages, and many smaller G10 economies are more
sensitive to changes in the policy rate due in part to a proliferation of variable rate
mortgages. In comparison, the US economy has a brighter outlook, and may be less
sensitive to higher rates. For this reason, we think 2023 rate pricing could converge
somewhat, adding renewed support to the Dollar.

While the Dollar’s high valuation and a better global growth outlook have markets

43b4ba46e812457c94ec14090904c026
searching for “peak Dollar”, we think the conditions for a sustained turn in the Dollar still
appear at least a quarter or two away. Surveying historical Dollar cycles, we find that
peaks in the broad Dollar are most reliably associated with a trough in measures of US
and global growth, and an easing Fed. Judged from this historical lens, a Dollar peak
would still appear to be several quarters away, since we do not expect the Fed to
embark on easing until 2024, and a trough in growth also seems months away. Yet in
past periods of extremely elevated inflation, the Dollar appears to have peaked with
some Fed easing but US interest rates still near their peak, and with global and US
growth still declining rather than at the trough. For this reason, shifting Fed behaviour is
likely to be a key determinant of the Dollar’s performance.

Historical Dollar peaks have often also featured better prospects for global growth
though. While rate differentials have not really supported the Dollar up to this point in
the cycle, investors have nevertheless increased their allocation to US assets, likely due
to weak capital return prospects abroad. As in the 2016 cycle—the only Dollar peak that
came during a Fed hiking cycle—it is likely that the eventual Dollar peak this time around
will coincide with better global growth prospects and renewed capital flows abroad
(Exhibit 82). So we see a few potential “right tail” risks that could lead to an earlier

28 November 2022 46
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Dollar peak than we are currently forecasting. These include an earlier and more
convincing Fed pause, an early end to the Russia-Ukraine war and a path towards more
stable energy supply in Europe, or a faster reopening in China.

Exhibit 82: A Dollar peak will likely require better capital return prospects abroad

% AUM Global Positioning in US and Euro area Equity and Bond Funds % AUM
69 11.0

68 US (left)
10.5
Euro area (right)
67
10.0

66
9.5
65
9.0
64

8.5
63

62 8.0
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61 7.5
2014 2015 2016 2017 2018 2019 2020 2021 2022

Source: EPFR, Goldman Sachs Global Investment Research

EUR: Running on Empty

The Euro is deeply undervalued by most conventional standards, but we see good
reason to be sceptical about those valuation estimates at this time. The Euro area’s
current account has deteriorated significantly in recent months, driven by higher prices
for scarce energy (Exhibit 83), and it could swing even lower, generating a material
impact on prospective returns for the Euro. Our commodity analysts expect that Europe
will continue to face gas shortages and elevated prices to rebuild storage levels again
next year. At a basic level, as the price of Euro area imports rises, it requires a cheaper

43b4ba46e812457c94ec14090904c026
Euro to achieve the same external balance as before. Our model estimates of EUR fair
value have already moved lower this year, and would fall substantially further (close to
current spot levels) if the current account remains around current levels.

This dynamic also matters for the cyclical currency outlook. As we have documented,
capital outflows from the Euro area helped drive the currency’s decline during the
negative rate era, and it will likely require better total return prospects for portfolio flows
to come back. But that will be difficult to achieve while energy supplies are constrained.
Effectively, the lack of Russian gas flows, and limited prospect for a quick return, put a
“ceiling” on European growth and the Euro. Even as the milder winter (so far) and a
timely grab for gas supplies over the summer has reduced the prospect for a bigger
“cliff edge” this winter, we think recent EUR appreciation will prove unsustainable.
Furthermore, portfolio inflows that would be required to support the currency are also
likely to be fickle, and underlying weakness in the manufacturing sector could eventually
cause the ECB to “fall off the pace” of Fed tightening, especially considering that
aggressively hiking into a slowdown would risk exacerbating credit concerns on the
periphery. In short, as long as the trade deficit is widening and the ECB has to balance

28 November 2022 47
 Goldman Sachs GOAL: Global Opportunity Asset Locator

high inflation against weakening growth, we think the prospect for substantial Euro
appreciation will be limited.

Exhibit 83: The Euro area current account has weakened substantially

EUR billions EUR billions

Euro Area: Current Account Balance
500 500
Germany Greece Italy
Spain France Portugal
400 Belgium Finland Other 400
Total

300 300

200 200

100 100

0 0

-100 -100

-200 -200

-300 -300
For the exclusive use of [email protected]

2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022

Source: National Sources, Eurostat, Goldman Sachs Global Investment Research

CNY: Much Ado About Reopening

Signals about China’s economic reopening from its zero-Covid policies have boosted
local asset markets in recent weeks, with some Renminbi strength as well. There is no
question that zero-Covid policies have imposed a severe cost on growth, and moving
away from this should allow a recovery in economic activity, and support undervalued
local equities and credits. However, despite some of the encouraging news recently, our
economists still expect growth to be below consensus for the first half of the year, as
the initial stage of China’s reopening may well prove to be negative for growth, with
Covid cases surging and population mobility temporarily declining. As a consequence,

43b4ba46e812457c94ec14090904c026
we think the PBoC will avoid too much currency strengthening beyond levels we have
already seen.

Moreover, it is far from clear that reopening is as unambiguously a positive for currency
fundamentals as it is for other assets. In fact, the past couple of pandemic years
provided quite a significant boost to China’s external balance, which is likely to reverse
upon reopening, especially alongside additional energy imports. At the same time, the
capital flow picture is also likely to be more challenging. While equity inflows can be
expected to pick up, other Chinese assets face much stiffer competition from the rest of
the world given higher yields and better valuations globally. Taken together, the external
trade and capital flow dynamics are likely to pose a headwind to the currency, in the
same way that it was a tailwind through the pandemic. Bottom line, we think the
currency is unlikely to be the best way for investors to position for reopening.

Other FX: Differentiation in a Different Cycle

This year has been characterized by broadly more hawkish central banks across the
globe, but we do not expect a similarly synchronised exit from tighter policy, opening
room for differentiation across FX.

28 November 2022 48
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Within G10, we expect rates to remain the dominating driver of JPY’s performance over
the next 12 months, as it has been for most of this year. This backdrop should fuel a
renewed rally in USD/JPY towards 155 over the coming months, assuming the US
avoids recession and YCC remains in place. That said, we expect things to look more
constructive in H2 2023, as the Dollar most likely sees the necessary conditions to turn
lower against most crosses. We similarly expect GBP to underperform in the near term
as it absorbs the latest negative supply shock from energy prices, and the BoE shows
limited desire to combat inflation, meaning that real rates are unlikely to provide Sterling
much support. Over the next few months, a strong USD and upside risk to Fed pricing
are likely to limit upside across the G10 commonwealth currencies (AUD, NZD, CAD)
and European satellites (NOK, SEK). However, an improvement in economic growth and
risk sentiment in the second half of the year should provide a more positive backdrop for
risky assets that should benefit AUD and NZD disproportionately, while SEK is likely to
continue to suffer from Euro area growth risks. CAD and NOK should also benefit
somewhat from higher energy prices in this case, though we think the positive effects
are likely to be more limited for NOK.
For the exclusive use of [email protected]

In EM, we think MXN and BRL outperformance can continue in coming quarters given
their exposure to an extended US cycle and high carry. Consistent with our broader
outlook, we think USD/NJA crosses should also climb higher over the near term before
trending lower over longer horizons in part on the coattails of China’s reopening boost,
and within the region we are more constructive on the Korean Won (KRW) and
Singapore Dollar (SGD). The CEE currencies, however, are likely to remain under
pressures in the near term as macroeconomic fundamentals (recession in the Euro area,
elevated inflation, uncertainty about the Russia-Ukraine conflict, and weak external
balances) warrant a cautious stance. That said, we think 2023 could also see the trough
in some of these domestic fundamentals and external pressures, in which case a more
sustained shift stronger in CEE FX could be warranted.

For details see:

43b4ba46e812457c94ec14090904c026
n 2023 Global FX Outlook: Waiting for a Challenger, November 18, 2022
n EM Market Outlook 2023: Resilience Behind, Restrained Upside Ahead, November
22, 2022

Contributors: Kamakshya Trivedi, Danny Suwanapruti, Michael Cahill, Karen

Fishman, Ian Tomb, Isabella Rosenberg

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 Goldman Sachs GOAL: Global Opportunity Asset Locator

Calendar: Key events in 2023

Date Region Event
End 2022
4 Dec Global OPEC and non-OPEC Ministerial Meeting
4 Dec China Politburo Meeting
13-14 Dec United States FOMC Meeting & Conference
15 Dec Euro Area ECB Monetary Policy Meeting
Dec China Central Economic Work Conference
Q1 2023
3 Jan United States 118th United States Congress
13-14 Jan Czech Republic Presidential Election
16-20 Jan Global World Economic Forum Annual Meeting
18 Jan Japan BOJ Monetary Policy Meeting
25 Jan Euro Area Governing Council of the ECB: Monetary Policy Meeting 
31 Jan United States FOMC Meeting & Conference
Jan-Feb China Second plenum conference of the 20th CPC Central Committee
1 Feb United Kingdom FY2023 Budget Announcement
2 Feb Euro Area ECB Monetary Policy Meeting
2 Feb United Kingdom February MPC Summary and Monetary Policy Report
25 Feb Nigeria Presidential Election
Feb South Africa Budget Announcement
9 Mar Japan BOJ Monetary Policy Meeting
16 Mar Euro Area ECB Monetary Policy Meeting 
21-22 Mar United States FOMC Meeting & Conference
23 Mar United Kingdom March MPC Summary
For the exclusive use of [email protected]

Mar China Chinese People's Political Consultative Conference (CPPCC)

Mar China National People's Congress (NPC)
Q2 2023
2 Apr Finland Parliamentary Election
27 Apr Japan BOJ Monetary Policy Meeting
Apr China Politburo Meeting
7 May Thailand Thai General Election
11 May United Kingdom May MPC Summary and Monetary Policy Report
19-21 May Global 49th G7 Japan Summit
2 May United States FOMC Meeting & Conference
4 May Euro Area ECB Monetary Policy Meeting
4 Jun Mexico State of Mexico and Coahuila Elections
13-14 Jun United States FOMC Meeting & Conference
15 Jun Japan BOJ Monetary Policy Meeting
15 Jun Euro Area ECB Monetary Policy Meeting
18 Jun Turkey President and Parliament elections
22 Jun United Kingdom June MPC Summary
Jun-Sep Singapore Singaporean Presidential Election
Q3 2023
25-26 Jul United States FOMC Meeting & Conference
27 Jul Euro Area ECB Monetary Policy Meeting
27 Jul Japan BOJ Monetary Policy Meeting

43b4ba46e812457c94ec14090904c026
Jul China Politburo Meeting
3 Aug United Kingdom August MPC Summary and Monetary Policy report
Aug Argentina Primary Election (PASO)
Aug United States Jackson Hole FRB Symposium
14 Oct Euro Area ECB Monetary Policy Meeting
21 Sep Japan BOJ Monetary Policy Meeting
21 Sep United Kingdom September MPC Summary
Q4 2023
19-20 Oct United States FOMC Meeting & Conference
26 Oct Euro Area ECB Monetary Policy Meeting
29 Oct Argentina General Election
30 Oct Japan BOJ Monetary Policy Meeting
31-1 Oct-Nov United States FOMC Meeting & Conference
Oct-Nov China Second plenum conference of the 20th CPC Central Committee
2 Nov United Kingdom November MPC Summary and Monetary Policy Report
11 Nov Pakistan General election
11 Nov Poland Parliamentary Election
1 Dec Global G20 New Delhi Summit
12-13 Dec United States FOMC Meeting & Conference
14 Dec United Kingdom December MPC Summary
14 Dec Euro Area ECB Monetary Policy Meeting 
18 Dec Japan BOJ Monetary Policy Meeting
Dec China Politburo Meeting
To be scheduled
TBD Chile Draft of New Constitution

Source: Compiled by Goldman Sachs Global Investment Research

28 November 2022 50
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Asset class forecast returns and performance

Exhibit 84: Goldman Sachs’ 3-, 6- and 12-month return forecasts by asset class
Benchmark 3-month Total Return 6-month Total Return 12-month Total Return
Asset Class
Weight Local currency In USD Local currency In USD Local currency In USD
Equities 35 -6.3 -10.3 -0.8 -3.8 5.6 6.1
S&P 500 40 -10.2 -10.2 -2.3 -2.3 1.0 1.0
STOXX Europe 600 30 -10.6 -19.3 -5.2 -11.7 5.7 6.6
MSCI Asia Pac ex Japan 20 5.1 3.7 7.6 7.5 12.8 14.1
TOPIX 10 -0.7 -11.4 1.9 -9.0 9.8 8.5
10 yr. Government Bonds 45 -3.4 -9.3 -3.7 -8.8 -2.3 -2.4
US 40 -3.8 -3.8 -4.3 -4.3 -1.7 -1.7
Germany 30 -6.5 -15.6 -6.9 -13.2 -6.0 -5.1
Japan 30 0.3 -10.4 0.4 -10.4 0.5 -0.7
Credit 10 -5.0 -7.7 -5.3 -7.2 -1.6 -1.3
Bloomberg Barclays US IG 40 -5.5 -5.5 -6.0 -6.0 -2.0 -2.0
Bloomberg Barclays US HY 20 -5.1 -5.1 -5.4 -5.4 -0.3 -0.3
iBoxx EUR IG 20 -4.8 -14.1 -4.9 -11.4 -3.2 -2.3
BAML EUR HY 10 -5.2 -14.4 -5.1 -11.6 -1.2 -0.4
JP Morgan EMBI Div. 10 -2.9 -2.9 -2.9 -2.9 0.6 0.6
Commodities (S&P GSCI) 5 11.8 11.8 20.6 20.6 34.5 34.5
Cash 5 0.7 -4.1 1.6 -1.8 3.5 3.9
For the exclusive use of [email protected]

US 50 1.1 1.1 2.4 2.4 4.8 4.8

Euro area 50 0.4 -9.4 0.9 -6.0 2.3 3.1
FX 3m target Return 6m target Return 12m target Return
EUR/$ 0.94 -9.7 0.97 -6.8 1.05 0.9
$/YEN 155 12.0 155 12.0 140 1.2

Source: Datastream, Bloomberg, Goldman Sachs Global Investment Research

Exhibit 85: Performance of asset classes YTD

110 105

105
100
100

95 95

90
90
85

43b4ba46e812457c94ec14090904c026
80 Equities 85
S&P 500 Government bonds
75 Topix US 10 year Gov. bonds
MXAPJ 80 German 10 year Gov. bonds
70 Stoxx Europe 600 Japan 10 year Gov. bonds

65 75
01-Jan-22 01-Mar-22 01-May-22 01-Jul-22 01-Sep-22 01-Nov-22 01-Jan-22 01-Mar-22 01-May-22 01-Jul-22 01-Sep-22 01-Nov-22

105 160
Commodities
Credit US IG Credit
European IG Credit US HY Credit
150
100 EUR HY Credit EM USD credit (EMBI)

140
95

130
90
120

85
110

80 100

75 90
01-Jan-22 01-Mar-22 01-May-22 01-Jul-22 01-Sep-22 01-Nov-22 01-Jan-22 01-Mar-22 01-May-22 01-Jul-22 01-Sep-22 01-Nov-22

Source: Datastream, Goldman Sachs Global Investment Research

28 November 2022 51
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Key macro forecasts

Exhibit 86: GS forecasts across asset classes
Return in % over last Current Forecasts Up/ (downside) in %
12 m 3m 1m YTD Level 3m 6m 12m Unit 3m 6m 12m
S&P 500 ($) -13.0 -2.3 6.2 -14.3 4027 3600 3900 4000 Index -10.6 -3.2 -0.7
Stoxx Europe 600 (€) -5.2 2.4 9.9 -6.8 441 390 410 450 Index -11.5 -7.0 2.1
MSCI Asia-Pacific Ex-Japan ($) -20.5 -2.7 15.5 -19.0 496 510 525 550 Index 2.9 5.9 11.0
Topix (¥) 2.7 3.7 7.0 3.9 2019 2000 2050 2200 Index -0.9 1.5 9.0
10 Year Government Bond Yields
US -14.6 -3.9 4.8 -16.2 3.71 4.25 4.44 4.34 % 54 bps 73 bps 63 bps
Germany -16.1 -3.9 4.7 -15.8 1.85 2.65 2.75 2.75 % 80 bps 91 bps 91 bps
Japan -0.7 -0.1 0.1 -0.8 0.25 0.25 0.25 0.25 % 1 bps 1 bps 1 bps
UK -14.5 -1.9 6.0 -14.7 3.04 3.90 4.00 4.00 % 86 bps 96 bps 96 bps
Credit
Bloomberg Barclays US IG -14.7 -2.1 6.7 -15.5 131 168 174 154 Bps 37 bps 43 bps 23 bps
Bloomberg Barclays US HY -9.3 -1.1 3.8 -10.7 436 555 585 520 Bps 119 bps 149 bps 84 bps
iBoxx EUR IG -12.6 -1.7 4.2 -12.5 196 230 231 212 Bps 34 bps 35 bps 16 bps
BAML EUR HY -10.5 0.4 5.9 -10.8 500 617 633 560 Bps 117 bps 133 bps 60 bps
JP Morgan EMBI Div. -16.9 -1.8 8.1 -17.8 486 490 493 500 Bps 3 bps 7 bps 14 bps
Commodities
WTI -0.7 -18.7 -9.7 3.5 78 110 100 105 $/bbl 41.3 28.5 34.9
Brent 3.4 -15.9 -8.7 8.6 85 115 105 110 $/bbl 35.0 23.3 29.1
Copper -19.1 -0.7 4.1 -17.8 8003 6700 7600 9000 $/mt -16.3 -5.0 12.5
Gold -1.6 0.1 6.6 -3.6 1756 1850 1950 1950 $/troy oz 5.3 11.0 11.0
FX
EUR/USD -7.0 4.2 5.3 -8.5 1.04 0.94 0.97 1.05 -9.7 -6.8 0.9
USD/JPY 19.9 1.2 -7.0 20.2 138.4 155.0 155.0 140.0 12.0 12.0 1.2
For the exclusive use of [email protected]

GBP/USD -8.9 2.7 7.3 -10.4 1.21 1.07 1.11 1.22 -11.9 -8.6 0.5
AUD/USD -5.9 -2.1 7.5 -6.9 0.68 0.62 0.67 0.71 -8.4 -1.0 4.9
USD/BRL -5.1 4.1 0.5 -4.6 5.31 5.20 5.20 5.00 -2.1 -2.1 -5.9
USD/INR 9.7 2.3 -1.3 9.8 81.6 84.0 83.0 82.0 2.9 1.7 0.5
USD/CNY 11.9 4.1 -1.6 12.2 7.15 7.20 7.00 6.90 0.7 -2.1 -3.5

Source: Datastream, Bloomberg, Goldman Sachs Global Investment Research

Exhibit 87: DM GDP growth vs. GS CAI and GDP forecasts Exhibit 88: EM GDP growth vs. GS CAI and GDP forecasts

30 DM CAI 30
EM CAI
25 DM GDP (YoY) 25 EM GDP (YoY)
DM GDP (Forecast) 20 EM GDP (Forecast)
20
15
15
10
10
5
5
0
0

43b4ba46e812457c94ec14090904c026
-5
-5
-10
-10 -15
-15 -20

-20 -70 -25

16 17 18 19 20 21 22 23 24 16 17 18 19 20 21 22 23 24

Source: Goldman Sachs Global Investment Research Source: Goldman Sachs Global Investment Research

28 November 2022 52
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Exhibit 89: Real GDP growth Exhibit 90: Headline Inflation

*Bloomberg Consensus
2022E 2023E 2024E % yoy 2021 2022E 2023E 2024E
% yoy
GS Cons.* GS Cons.* GS USA 4.7 8.0 4.0 2.8
USA 1.9 1.8 1.1 0.4 1.6 Japan -0.2 2.4 2.5 1.4
Japan 1.5 1.5 1.3 1.3 1.4
Euro area 2.6 8.7 8.1 2.1
Euro area 3.3 3.1 -0.1 -0.1 1.4
UK 2.6 9.0 8.1 2.6
UK 4.4 4.2 -1.2 -0.6 0.9
China 3.0 3.3 4.5 4.8 5.3 China 0.9 2.0 2.2 2.4
India 6.9 8.7 5.9 7.0 6.5 India 5.1 6.8 6.1 4.7
Brazil 2.9 2.7 1.2 0.8 2.2 Brazil 8.3 9.4 4.6 4.2
Russia -3.3 -4.0 -1.3 -3.2 1.8 Russia 6.7 13.9 6.5 6.8
Advanced Economies 2.5 2.5 0.7 0.5 1.5 Advanced Economies 3.2 7.5 5.4 2.4
Emerging Markets 3.5 3.1 3.4 4.0 4.4 Emerging Markets 4.1 8.8 6.5 4.5
World 2.9 2.9 1.8 2.1 2.8 World 3.7 8.2 6.0 3.6
Aggregates are Market FX - Weighted Source: Goldman Sachs Global Investment Research
Source: Bloomberg, Goldman Sachs Global Investment Research
For the exclusive use of [email protected]

43b4ba46e812457c94ec14090904c026

28 November 2022 53
 Goldman Sachs GOAL: Global Opportunity Asset Locator

Disclosure Appendix
Reg AC
We, Christian Mueller-Glissmann, CFA, Cecilia Mariotti, Andrea Ferrario, Peter Oppenheimer, David J. Kostin, Timothy Moe, CFA, Jeffrey Currie, Lotfi
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Unless otherwise stated, the individuals listed on the cover page of this report are analysts in Goldman Sachs’ Global Investment Research division.

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less the premium received, while their maximum gain is the premium received.

43b4ba46e812457c94ec14090904c026
For options settled by physical delivery, the above risks assume the options buyer or seller, buys or sells the resulting securities at the settlement price
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28 November 2022 54
 Goldman Sachs GOAL: Global Opportunity Asset Locator

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43b4ba46e812457c94ec14090904c026
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28 November 2022 55
 Goldman Sachs GOAL: Global Opportunity Asset Locator

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43b4ba46e812457c94ec14090904c026
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