Market Summary by Brooks Macdonald - September 2021
Global equities have continued their strong run over Q3 while government bond yield curves flattened. Within headline equity indices however, there has been some relative underperformance for those cyclical/value sectors associated with hopes of a post-pandemic economic reflation, and instead growth/defensive stocks were more sought after. Playing into this recalibration of the inflation outlook, the US Federal Reserve (Fed) surprised markets in recent months with a slightly more hawkish tilt. The Fed’s ‘dot plot’ of member forecasts signalled a median interest rate ‘lift-off’ in 2023, while the tapering of asset purchases could start as early November 2021. However, this should be seen against the context that even in such an outlook, interest rates are still expected to remain very low against a historical context for some years yet.
UK equities continue to be one of the better performing markets so far in 2021 against a global context as they benefitted from a further relaxation of COVID-19 restrictions. Declines in infections towards the end of July, after sharp rises earlier in the month, also boosted sentiment. The government’s vaccine success and its (albeit slightly delayed) roadmap out of lockdown has encouraged a more optimistic view for those cyclical and value sectors that were so deeply out of favour during the pandemic.
US equities continue to perform strongly, helped by rotation within the market towards growth/defensive equity sectors, such as technology stocks which have a relative large weight in headline indices relative to markets globally. While the headline Consumer Price Index (CPI) inflation rate rose to 5% year on year in May, this was heavily distorted by one or two categories, and as data from the Federal Reserve Bank of Cleveland demonstrated, adjusted inflation measures which try to identify broader trends in the data, point to relatively much more muted inflation dynamics. Again, supporting the narrative that inflation pressures are likely to be transitory, news has been mixed and has often served to remind markets that there is still slack in labour markets more broadly, and as such, sustained wage-price pressures are unlikely.
Japanese stocks weakened in July as the government reintroduced COVID-19 curbs in Tokyo, although some favourable corporate results, both in Japan and the US, helped to limit the losses overall. The core inflation rate, which excludes fresh food prices, rose to 0.2% year on year in June. In year-to-date performance terms, the country remained a significant laggard versus other countries and regions globally. The Japanese Prime Minister continued to see poor polling results, which puts at risk his re-election chances in the national elections due to be held by October at the latest.
Asia-Pacific equities (excluding Japan) fell significantly, in aggregate, led by declines in China. Chinese stocks slumped as investors worried about a regulatory clampdown, after Beijing announced new regulations for a number of key sectors. These regulatory actions appear to be targeted actions on the part of Chinese regulators rather than a broader anti-business sentiment, and longer-term, the derating in equity valuations may offer an attractive longer-term buying entry point. Evergrande, as the second largest property developer in China, was quite a large straw to break the back of market optimism however it is fair to note that the selloff reflected the sum of all these fears rather than Evergrande alone. That said, the sheer scale of Evergrande’s debt burden, and complexity of its relationships, is enough for markets to pay attention. Beijing meanwhile is treading a line where it doesn’t want to step in too early, for fear that property risk takers view the sector as underwritten by the government, but equally do not want to risk contagion into Chinese economic growth. Supporting the economic outlook, China’s central bank, the People's Bank of China (PBOC), cut the Reserve Ratio Requirement (RRR) in July by 0.5% for most banks, and this represented the first cut since the height of the pandemic last year. China’s economy grew by 7.9% year on year in the second quarter4, down from a record expansion in the first quarter.
Yields on core government bond markets declined in July, in part as investors appeared to subscribe to the ‘transitory’ inflation message that central banks continue to hold to. Another factor driving the yield on US benchmark 10-year Treasuries lower (prices rose, reflecting their inverse relationship) was the spread of the Delta variant of COVID-19 which raised some concerns about the impact on both the pace and the degree of synchronisation of the global economic recovery. With such uncertainty lingering as to how the global economy will reopen, this serves to reiterate the need for balance in portfolios, during what continues to be a transition year for both economies and markets.
Important information
The performance indicated for each sector should not be taken as an expectation of the future performance. Investors should be aware that the price of investments and the income from them can go down as well as up and that neither is guaranteed. Past performance is not a reliable indicator of future results. Investors may not get back the amount invested. Changes in rates of exchange may have an adverse effect on the value, price or income of an investment.
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