U.S. pension fund executives are taking a cautious approach to 2024, as they await the answer to how much the economy will slow and when and by how much the Federal Reserve may cut interest rates.

While much remains unknown, they are seeking returns in places like fixed income and real estate, where they believe the greatest opportunities loom.

There’s also the matter of the upcoming U.S. presidential election.

Christopher Ailman, chief investment officer of the $304.9 billion California State Teachers’ Retirement System, West Sacramento, summed up the overall uncertainty in 2024 in a Dec. 18 interview: “My Magic 8 ball is broken. It’s stuck in between tiles, so I don’t have a good prediction model for next year.”

“Usually, when the U.S. market, say the S&P 500 index, is up 25%, you rarely see it repeat that return in the following year,” he added in a follow-up email. “You would only expect that in a raging strong economy, and we don’t have that. So, I’m expecting the typical return in a presidential election year of something like a single-digit positive result.”

“It really looks to me like (Federal Reserve Chairman Jerome) Powell has pulled off the soft landing,” Ailman said in the interview.

Charles Van Vleet, assistant treasurer and CIO of pension investments at Textron, concurs.

He and his staff think 2024 will be another year of solid returns, the risk of recession will be low, and progress on reducing inflation will continue. He said in a written response to questions that recent breakthroughs in pharmaceuticals are the “tide that will lift all boats.”

Van Vleet said in the Dec. 6 response: “Just consider that six weeks ago the FDA approved cellular meat, three months ago GLP-1 for weight loss, six months ago Nvidia introduced the H100 chip, five years ago we learned of CRISPR” gene-editing treatments. “All of these breakthroughs will power the markets with productivity and profits,” he said.

Van Vleet said the greatest near-term opportunity is in real estate, particularly in publicly listed real estate investment trusts.

“The public real estate market has tossed the baby out with the bathwater by treating everything like office and shopping malls,” he said. “There are solid fundamentals in data centers, cold storage, multifamily and industrial.”

Van Vleet oversees over $13 billion in defined benefit and defined contribution plan assets for the company.

On the real estate side, Jase Auby, CIO of the $187.2 billion Texas Teacher Retirement System, Austin, said that “data centers remain a big focus of ours.”

While the rise in interest rates has been the biggest investment-related theme over the past year, Auby said on a more thematic note, the rise of artificial intelligence is just as important.

“From our perspective, it’s real and it really is translating into tangible demand for data center space, so that’s something we’re focused on and allocating to,” Auby said.

Paul Colonna, president and CIO of Lockheed Martin Investment Management, said fixed income and real estate debt are areas where he and his staff see some opportunity. In his role, Colonna oversees more than $30 billion in frozen defined benefit plan assets of Lockheed Martin, Bethesda, Md.

At this time last year, Colonna expressed eagerness at the prospect of fixed income generating returns, given the rise in interest rates. But overall returns fell below expectations before a November boom in 2023.

The Bloomberg U.S. Aggregate Fixed Income index returned 4.5% during the month after returning -2.8% in the 10 months ended Oct. 31.

“We were adding to our fixed-income portfolio in 2023, and we were glad we did that,” Colonna said. “We did that kind of thinking fixed-income returns would be compressed with equity returns, and that was more of a secular view, not just a view on ’23. We still kind of believe that.”

Colonna said that he and his staff think there is more compression between the equity and fixed-income markets ahead in 2024, certainly in the first part of the year before fixed-income returns might level off if there is a soft landing.

Colonna also said there is some significant opportunity in real estate debt.

“(In) commercial whole loans, credit tenant leases, some of the places in the real estate debt market where you’re taking on some less leverage, there’s opportunity for pretty strong returns if you do your underwriting correctly,” he said.

Along with the opportunities for the coming year, pension fund executives anticipate the themes of the last two years will continue to dominate their thinking in 2024 and provide the key challenges for investors.

“I think still inflation and interest rates are going to be top of mind for most investors,” said Angela Miller-May, CIO of the $50.2 billion Illinois Municipal Retirement Fund, Oak Brook.

“Really, when is the Fed going to cut rates? Whether it is the first quarter or the fourth quarter of next year, how many rate cuts? Between three to five cuts? Just trying to realize what the reality will be as opposed to what the expectations will be,” she said.

Sriram Lakshminarayanan, CIO of the $41.1 billion Iowa Public Employees’ Retirement System, Des Moines, said he thought the market navigated to a higher interest rate environment in 2023 surprisingly well, thanks to what he said was the might of the American consumer and the rise of artificial intelligence technology, typified by the extraordinary market performance of chipmaker Nvidia.

The same question applies though.

The Fed’s actions “seemed to have reduced inflationary pressure enough that people are kind of happy that this is the nice place to be,” Lakshminarayanan said. “What this means is the Fed is likely done increasing, and there is going to be a little bit of growth slowdown as it comes with higher interest rates. The bigger question for all of us is when is the Fed going to reverse that path and start reducing interest rates?”

Lakshminarayanan said if the slowdown remains gradual, then the Fed can take its time reducing interest rates rather than going for the “nuclear option” of immediate, back-to-back rate cuts.

Noted Andrew Junkin, CIO of the $105.9 billion Virginia Retirement System, Richmond: “It does feel like even if rates do come down as the Fed is projecting next year, a lot of it has already been priced in.”

“Equity has really turned,” he said. “U.S. stocks are not cheap, they’re really the only place we’re seeing consistent growth around the globe, certainly driven by the Magnificent Seven.”

The Magnificent Seven — Apple, Microsoft, Alphabet, Amazon.com, Nvidia, Meta Platforms and Tesla — have driven much of the growth of the S&P 500 index in 2023.

“That concentration is one of the things that keeps me up at night,” he said.

Texas Teachers’ Auby anticipates a recession in 2024, pointing out that the classic signals predicting recession are lining up, “flashing red as it were,” including the yield curve inversion, banks tightening lending standards, and unemployment rising, putting out projections for the coming year at 4.2%, up from the current 3.7%.

Auby said it is difficult for him to see how there won’t be a recession, although it’s possible the U.S. may work its way out of it.

“Valuations are stretched in the equity market, but they’re in a zone of overvaluation that can persist for a very long time,” Auby said. “There’s no reason why tomorrow they have to revert to their long-term average, and there’s a very striking theme out there with AI and other forms of tech that are quite powerful and can feed that narrative.”

Paul Matson, executive director of the $50.7 billion Arizona State Retirement System, Phoenix, said in a written response that he sees a return to a “more normal economic and political state” in 2024.

That includes “interest rate levels driven more by investor and borrower demand and supply than central authorities and policy makers; mitigation of global power politic rhetoric; mild reduction of trade frictions; and modest resolution or containment of global confrontations.”

He added that he and his staff do not see a recession occurring in 2024, and “a modest growth scenario is more likely than a negative growth scenario.”

Farouki Majeed, CIO of the $17.5 billion Ohio School Employees Retirement System, Columbus, projects some slowdown in the economy, although he can’t say whether it will be called a recession.

“It is probably not likely to be severe,” Majeed said. “At the same time we do expect some sort of rate cuts, maybe not to the extent that the market is currently discounting, perhaps to the latter part of 2024.”

Meanwhile, CalSTRS’ Ailman sees the slowing economy as perhaps something that will further divide the country.

“If I’m right in that we don’t have a recession and it’s a really slow recovery, we are already seeing the signs (of stress) at the bottom part of the income ranges,” Ailman said. “There could be a real economic divide.”

Few things typify the concept of a divided country like the upcoming presidential election in 2024, which by all accounts is expected to feature a rematch between President Joe Biden and Donald Trump.

“It’s an election year, which brings about its own set of uncertainties,” VRS’ Junkin said.

“With the two likely candidates, we kind of know the game plan, and the rhetoric and what we’re going to see. Even here in a purple state, I almost threw my TV out the window after the state elections.”

“(Regarding) the election, I’m old enough in age that that stuff just stresses me out,” said CalSTRS’ Ailman. “Does it affect the market? Probably not. A president is going to want a decent economy. I think the Fed is going to go silent by August and not want to do anything in the last third of the year, but by the rhetoric? Who knows? It’s weird. It feels like it’s going to divide the country.”

There’s some data showing markets tend to rise in election years. And yet, Miller-May raised similar concerns.

“Really, what’s going on, it scares me. The wars and the fact that we can’t be on one accord in what should be the United States. I worry for my children. I worry for my nation. I worry for our economy because that’s my job, and because it’s what I love to do but (the election) will definitely make it more challenging.”