February Issue 2023
Summary
Despite being well into the new year, the dominant theme for global equities in 2023 continues to be the influence of inflation and interest rates.
Equity Snapshot
| United States | • | US stocks sold off over February as strong economic data stoked fears that the Federal Reserve (Fed) would have to keep rates higher for longer to bring inflation back to target levels. The decline was broad based, with corporate earnings falling slightly on a year-on-year basis in the latest quarter as a tight labour market and a strong US dollar pressured margins. |
| • | The US economy added 517,000 jobs in January, around three times as many as expected, causing the unemployment rate to fall to a 53-year low of 3.4%. While the annual US inflation rate eased to 6.4% in January from 6.5% in December, this was above expectations. In a further sign that the deceleration in US inflation may be coming to an end, the Core Personal Consumption Expenditure Index (the Fed’s preferred measure of inflation) rose to 4.7% year-on-year in January, from 4.6% in December. US retail sales were also unexpectedly robust in January, jumping 3.0% on a month-on-month basis, the biggest monthly increase since March 2021. | |
| Europe | • | European equities rallied modestly over February (in EUR terms). Sentiment was buoyed by growing hopes that the region may avoid a recession, with the fall in natural gas prices and higher-than-normal gas storage levels for the time of year contributing to the positive tone. Performance at the sector level was mixed: communication services and energy companies posted solid gains, while materials and real estate stocks sold off the most. |
| • | Economic data indicated that eurozone economic activity was continuing to accelerate, with the flash estimate of S&P Global Eurozone Composite Purchasing Managers’ Index (PMI) rising to 52.3 in February from 50.3 in January. Services activity picked up to an eight-month high, although manufacturing activity deteriorated slightly. Meanwhile, the annual rate of eurozone inflation fell to 8.6% in January, the lowest level since June 2022. However, early estimates of inflation data in France and Spain suggested that inflation had accelerated for the second consecutive month in February. | |
| Asia | • | Asia ex Japan equity markets retreated over February as stronger-than-expected US economic data and resilient inflation raised fears that the Federal Reserve would need to keep rates high for longer. A stronger tone to the US dollar also weighed on sentiment. Chinese equities lost ground over February, disrupting the strong recovery ignited by Beijing’s zero-COVID pivot, with sentiment dented by geopolitical tensions between China and the US. Hong Kong-listed stocks sharply underperformed mainland shares as a result. On a positive front, China’s COVID-19 infection levels plummeted after peaking in early January. Elsewhere in the region, returns in Taiwan and South Korea were largely flat. ASEAN markets declined but fell less than the broader region. While inflation rates are falling in Indonesia, Thailand, and Malaysia, the Philippines central bank raised rates by 50 basis points (bps) to 6% during the month, and Singapore’s inflation also ticked slightly higher to 6.6% in January following a 1% increase in its sales tax to help fund higher health care spending. |
| Bond | • | Government bonds sold off globally as speculation that central banks might soon pivot to a more dovish stance seemed premature. In the US, the 10-year Treasury bond yield rose around 40 basis points (bps) over the month, ending the month at 3.92%. In early February, central banks in the US and Europe raised rates by 25 bps and 50 bps, respectively. While the hikes were widely expected, minutes of the rate-setting meetings showed many policymakers believed that further significant hikes were likely to be needed to tame inflation. |
| Outlook | • | Despite being well into the new year, the dominant theme for global equities in 2023 continues to be the influence of inflation and interest rates. The hawkish tone from February’s central bank meetings has reversed some of January’s exuberance, as have less optimistic views on China’s economic reopening. Ultimately, the complexity of current macroeconomic data only serves to reinforce our conviction that short-term portfolio positioning around such predictions is an effort best avoided. |
| • | The outlook for inflation remains ambiguous. On the one hand, the US CPI has fallen to its lowest level since October 2021, reaching an annualised rate of 6.5%. On the other, much of this decline can be attributed to the lapping effect of last year’s high energy prices and Covid-fuelled supply chain issues. Services inflation, meanwhile, continues to follow a stubbornly upward trajectory, touching over 4%. With the bulk of this consisting of wages and with unemployment stubbornly low, the Fed is likely to view its mission as not yet complete. | |
| • | The global economy is giving similarly mixed signals. Global purchasing manager indices (PMIs) have now returned to above 50 – the threshold between recession and expansion – for the first time in six months. Europe, in particular, is benefitting from better-than-feared energy supply, warmer weather and China’s reopening. Annual growth is now expected to reach 3.5%. However, initial optimism around China’s reopening has cooled as market participants await the conclusion of March’s National People’s Congress. This will include GDP targets and any potential stimulus measures. | |
| • | Ultimately, for companies, the task continues to be that of balancing higher input costs (including wages) with the prospect of softer demand and interest rates at a level not seen for over a decade. Fourth-quarter earnings for the S&P 500 already suggest that we have seen peak profitability at an aggregate level. Within the portfolio, we are reassured by holdings that show they are capable of bucking this trend, with Align, MarketAxess and Intuit all recently reporting results that strongly beat expectations. | |
| • | Whether it takes the form of a hard or soft landing, central banks are committed to orchestrating some level of economic pullback in order to tame inflation. For as long as sentiment is dictated by estimates of when and how this will be achieved, equities will remain volatile in the short-term. Yet further tightening and economic weakness should favour our positions in quality companies with sticky revenues, pricing power and exposure to structural growth. These should be well rewarded once fundamentals come back into focus. | |
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March Issue 2023
Summary
Investors appear to have made peace with the banking sector’s temporary crisis of confidence. The mismatch between Silicon Valley Bank’s liabilities and assets has not spiralled into a systemic risk.