World markets summary:
Financial assets enjoyed a very strong start to the year as investors took heart from increased evidence that inflation is peaking in the West and that the East will benefit from China reopening its economy after abandoning its Zero COVID-19 Policy.
Many of the asset classes, sectors and stocks which were the worst performers last year saw the sharpest rebound, with US technology stocks and long-term bonds notable standouts along with the star performer which was the Hang Seng Stock Index in Hong Kong.
The change in sentiment was such that investors actually lauded the big technology companies when they laid off thousands of workers, preferring to focus on the coming cost savings as opposed to the revenue slowdown which necessitated the staff cuts. Similarly, at the macroeconomic level weak data was generally taken positively as it lessened the need for aggressive interest rate rises by Central Banks.
We should note that stock markets rose despite profit forecasts being downgraded and that bond returns were positive despite Central Banks not endorsing the markets view on interest rates.
Throughout January investors were expecting the US, UK and Europe to raise rates in February however investors are betting we are very near the end of this cycle. If investors are proven correct then markets could further build on the strong January foundations as the year progresses.
Headlines describing weak economic activity early in the year will likely cause some volatility, but this is just natural market ebb and flow that we will strive to take advantage of.
Our in-depth views on:
Our weightings are based on sterling as a base currency
United States (US)
The US market started the year on the front foot and it was led by ‘Big Tech’ who rebounded from last year’s woes. They were the main beneficiaries in stock markets of falling bond yields, whereas gains were more widespread across fixed income.
More domestically focussed and industrial-type stocks rose but to a much lesser extent, up only 2.93%, whereas the technology index rose double digits by 10.67%. It was a further softening of inflation that drove markets upwards, as investors largely looked through weakening economic data.
The aforementioned fall in inflation led to expectations of a smaller interest rate hike at the US Federal Reserve’s (Fed) next meeting in early February and comforted investors that the end of the rate hiking cycle is near. This was good news for bonds, who had the best start to a year for over 201.
Fourth quarter earnings, many of which have been revealed in January, have shown some weakness and analysts have begun to downgrade earnings expectations in the US for this year as a whole. However, we remain underweight US equities given elevated valuations and in anticipation of further earnings discontent to come as the economy slows.
United Kingdom (UK)
Large cap, small cap and mid cap UK Indices all posted robust mid-single digit gains during the month as investor concerns over future interest rate rises were tempered somewhat. This overwhelmed any backward looking data releases which highlighted weakness in the economy in Q4, such as the housing market (measured by UK Royal Institution of Chartered Surveyors) and Manufacturing Purchasing Managers Indices.
Survey based data such as Deloitte Consumer Confidence, which saw its first rise in 15 months, and the Lloyds Business Barometer, which showed its first back to back rises in over a year, actually pointed to less pessimism about the future. These releases helped validate the advance in equities, and enabled more economically sensitive stocks to rally meaningfully after a tough 2022. We expect this to prove to be a forerunner for 2023 as a whole, despite almost inevitable periods of volatility, as inflation fears fade further.
Asia and Emerging Markets
The region shared the strong start to the year seen elsewhere as the accelerated (relative to expectations) reopening of the Chinese economy really boosted investor sentiment. This had a particularly positive impact on Hong Kong as trade with, and tourism from, Mainland China are big components of gross domestic product (GDP).
Asia was also helped by reduced fears over inflation in the West. This enabled trade dependent nations like Vietnam, Korea and Japan to post robust returns. Vietnam managed this return despite their President being ousted from the ruling Communist Party. Thailand, which has a large tourism industry, delivered a muted performance, as did Indonesia, whilst last year’s favourite, India, actually suffered a decline during the month.
Investors have recently cottoned on to the fact that Asia is well set up for a recovery in 2023 so some of the positive story has already played out. However, profit upgrades are likely over the course of the year and these, aligned with less concern over interest rates, should enable further gains by year end.
The outlook in Europe has improved markedly as of late with wholesale gas prices continuing to fall and economic data surprising to the upside (mainly as a result of the improved energy outlook). Stock markets have continued to rebound strongly, led by cyclical stocks and as a result of gas storage levels being at the highest level in 10 years for this time of the year, markets are now betting that Europe will not run out of gas next winter. Ironically, after the rhetoric in markets over the last few months, some investors are now less fearful of a severe recession in Europe versus other developed market peers.
Within this improved economic data, the Eurozone economic growth exceeded expectations in Q4, manufacturing increased more than was expected and consumer confidence bottomed out, rising to the highest level since February 2022 (tends to bottom out when stock market does) in January.
It was a tale of two hemispheres for government bonds as those in Europe, the UK and the US saw yields fall whilst Japan and China experienced rises. The falls in the West were due to diminishing inflation and therefore interest rate fears. Falling inflation numbers fuelled the improved sentiment, although the improvement in wage inflation is less evident in the UK than the US.
Chinese yields rose as investors expect the economy to accelerate sharply as it reopens from COVID-19 restrictions, whilst Japanese bond yields increased as investors asked further questions about the sustainability of the Bank of Japan’s policy to depress yields through yield curve control. Most investors now expect this policy to end during 2023 and it is expected this will cause both bond yields and the yen to appreciate. As investor confidence grew, the appetite for corporate bonds increased commensurately. This enabled the premium yield that investors demand over government bond yields to compress for both investment grade and high yield bonds. This enabled both sectors to outperform government bonds, which themselves produced decent positive returns.
Such returns are refreshing and as inflation worries subside and the cost of living crisis abates somewhat we see the potential for further gains in corporate bonds.
However, we should note that this path is likely to be volatile as investors are currently going against what each of the US, European and UK Central banks say they will do to rein in inflation. In other words markets are betting the Central Banks will cut interest rates some time before the time they are currently intimating.
Oil prices closed steadily on the last day of the month after recovering from a three week low. Demand for US crude and petroleum products rose in November and the weakening dollar has also supported oil prices.
Gold prices have enjoyed a strong last few months due to central bank purchases, rising recession fears and dollar weakness. All eyes now turn to the Fed to determine if they are set on raising rates further or if they feel they have done enough now inflation has visibly peaked.
European gas prices have continued to tumble which should help the inflation outlook.
The property sector continues to be in the midst of a slowdown with approvals for house purchases in the UK, which is an indicator of future borrowing, falling for the fourth straight month in December and reaching the lowest absolute level of approvals since the early stage of the pandemic. The Nationwide House Price Index for the UK was also weaker than expected and compared to the previous month house prices were down. This constituted a fifth consecutive monthly decline.
Real Estate Investment Trusts continue to trade on large discounts to Net Asset Value as they are pricing in the expected continued fall in property prices and higher rates.
1 Bloomberg, 31 January 2023
All Index data figures are sourced by Morningstar and correct as at 31 January 2023, unless otherwise stated.
The value of investments or any income arising from them may fluctuate and are not guaranteed. Past performance is not necessarily a guide to future performance.