Australia’s gross domestic product (GDP) expanded a solid 5.9% over the year to September, ABS data revealed this week, as the economy bounced back from the Delta lockdowns of 2021.

But forecasts by the Reserve Bank of Australia see economic growth slowing substantially over 2023, as the lagged impact of interest rate rises flow through to home borrowers, and spending decisions are delayed. 

The RBA on Tuesday raised the cash rate to 3.1%, a decade high, and expects GDP will slow to around 1.5% in 2023 and 2024.

Better year expected for bonds in 2023

One asset class expected to do better next year is government bonds, which generally benefit from slower economic growth.

Bond yields have priced in higher inflation, and the worst of the price losses could be behind us according to Craig James, chief economist at CommSec.

“Assuming that the RBA is successful in its strategy and growth slows, bringing inflation down, the government bond market has potential to recoup losses,” he says.

That sentiment is echoed by Kellie Wood, head of fixed income at Schroders. She sees a 60% chance of the US falling into recession next year, which would drag down bond yields globally and push up bond prices next year.

“2022 was the year to be out of fixed income, but the year to be in fixed income will be 2023. We expect both government bonds and corporate bonds to gain ground next year,” Wood says.

“Instead of fighting inflation, central banks will turn to fight recession in their own economies.”

She said a sharp downward adjustment in the expected path for interest rates will take bond yields lower and generate ‘attractive’ fixed income returns for investors.

“This macro outlook should favour higher quality assets including government and high quality corporate bonds,” Wood said.

“Our three-year expected returns for Australian governments are around 3.5% per annum and Australian investment grade credit at around 5% per annum.” 

Equities, in contrast, could struggle as higher interest rates and a slowing in economic growth hit profit growth. But there are exceptions to that, analysts say.

Telco and supermarkets provide defence

Morningstar analyst Brian Han says Telstra's (TLS) performance during the pandemic demonstrates the resilience of its earnings and the strength of its balance sheet.

Telstra is considered a defensive stock as its earnings do not depend on economic growth.

“Telstra has dominant market share in each service category and customer segment and enjoys cost advantages which underpin its narrow moat rating,” Han says.

“While competition is robust, mobile market shares are likely to prove resilient.

Telstra is currently trading close to Morningstar’s fair value estimate of $4.20.

People also need to eat, regardless of how fast the economy is growing.  

However Morningstar analyst Johannes Faul notes both Coles (COL) and Woolworths (WOW) face strong competition from Aldi, which will cap their profits.

 “While we expect the near- and medium-term impact on the supermarket majors’ market share and earnings margins to be muted, increasing competition longer term could force industry earnings margins structurally lower,” says Faul.

Commodities to benefit from higher energy prices

Diana Mousina, senior economist at AMP Australia, says stronger energy prices should underpin some commodities in 2023.

“Commodities should do well overall next year because of years of underinvestment, particularly for energy which should keep energy prices higher than usual, although lower than this year,” she says.

“Sanctions on Russia [are expected] to continue which will put upward pressure on prices, and the transition to net zero will support some commodities like metals and hydrogen.

“But there will be pockets of differences – gold looks like it could do better because it has been a recent underperformer but oil doesn’t do so well in a lower growth environment,” she added.

Ms Mousina says local equities are expected do better than US shares, on her expectations that rates will rise more in the US compared to Australia. She expects US economic growth will be softer and at a higher risk of recession.