Q3 2022 Market Review

Market Commentary  

Overall Market Backdrop for Q3

Drivers of Market Conditions in Q3

  • Each month in the quarter provided a different outcome for developed equities, with July providing strong performance, August providing flat performance, and September providing negative performance. A common theme throughout the months was strong economic data even with the underlying issues of high inflation prints and interest rate hikes. This caused strong performances early on in the quarter (July). Easing oil prices and better-than-expected corporate earnings results fuelled investor optimism amid recent economic pressures. While early on in the month there was some relief with inflation data coming back slightly lower than expectations, some thought that the fed may moderate its pace of monetary policy tightening. While a stream of strong economic data poured into the US with several large retailers reporting resilient earnings, this did not stop the S&P 500 from contracting due to the FOMC’s meeting in August implying weaker economic growth should be expected. In September we saw equities begin to plummet as renewed fears of aggressive monetary policy across central banks crushed investor sentiment.
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  • While the US equity market came out of the quarter with moderate returns the same can’t be said about the UK and European equity markets. July did offer some positive news for equity markets with the resignation of UK Prime Minister, Boris Johnson, and relief with the resumption of Russia’s Nord Stream 1 pipeline gas flow. Unfortunately, the effects of any positive news were limited to July only and with August seeing the resumption of unpleasing inflation prints. In the UK the living concerns amongst consumers are still very real. The end of the quarter was extremely challenging for UK investors as uncoordinated policy caused turmoil across British assets which resulted in the Bank of England’s (BoE) quantitative easing announcement.
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  • Inflation has been plaguing global equity and fixed-income markets YTD and this has been no different in Q3. We have seen price pressures strengthen globally, driving sustained and elevated inflation that hasn’t been seen in decades. While drivers of inflation do vary slightly from country to country there are some persistent factors, such as global supply chain issues and energy trade disruptions. This plague of high inflation coupled with global growth uncertainty, and a tighter labour market has created a paradox that investors and central banks are trying to wrap their heads around. Central banks have responded by being more hawkish which has caused global central banks to raise their respective interest rates at a record high; nearly 80% of major central banks are hiking.
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  • As aforementioned Global policy rates continued their upward trajectory:
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  • With all the stress equity markets are currently under the last thing needed was poor policy choices. The UK, unfortunately, felt some self-inflicted wounds in Q3 when a mini-budget consisting of tax cuts and increases in government borrowing was announced. The policy announced put the U.K. monetary and fiscal policy on a collision course and threatened to unpick the work of the central bank. The mini-budget put the UK market under tremendous stress and led to a forgetful week for many UK investors. The Pound crashed and fell to a record low of 1.035 against the dollar. In addition, the cost of borrowing soared, with the yield on 10-year gilts rising by more than 100 basis points within a few days. The sell-off that occurred led to margin calls from pension funds, forcing them to slash positions which could lead to potential liquidity issues. This forced the hand of the BoE as it announced temporary purchases of long-dated U.K. government bonds until the middle of October to try and curb the dysfunction happening within gilt markets. While the BoE stepped in to try and stabilise asset prices the problem remains that there will still be lingering concerns now around fiscal credibility.
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  • Yield curves continued to climb throughout the quarter and the US 10-Year Treasury ended on 3.8% which is an 83 basis points increase from the end of Q2. Central banks continued to sing to the same tune of taming inflation while also acknowledging the risk of over-tightening and this caused yields to rise higher. The Jackson Hole Symposium also reiterated a more hawkish stance. We’ve seen rate hikes from the Fed, BoE and ECB. We also saw continuous high US inflation prints which would have been the main reason for the rate hikes that occurred in September. Yields did begin to fall towards the end of the quarter as markets absorbed information from the BoE that stated their plan to buy long-dated UK bonds. This caused the UK 10- Year Gilt yields to see the largest single-day fall in over a decade.

How did Factors Perform in Q3?

  • Momentum was the second-best performing factor in Q3 after having a rough time prior to this period. The Momentum index now has the highest correlation with the Minimum Volatility index when compared to the other factors and this has helped the Momentum index in the last 2-months. A higher correlation to Minimum Volatility means the momentum index is now investing more in Minimum Volatility stocks due to its strong performance YTD.
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  • Small-Cap largely benefitted from a stellar July in which strong economic data really benefitted Smaller companies with better-than-expected earning reports.

Blog Post by Raj Chana
Investment Analyst at ebi Portfolios.

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