April Issue 2023
Summary
In a period of monetary policy adjustment, the financial sector becomes the primary mechanism of transmission. The smouldering fire burning through US banking stocks is a direct reflection of this. M2 money supply has contracted for eight straight months, yet the full consequences are typically only felt with a lag of four to six quarters.
Equity Snapshot
| United States | • | US equities rallied overall. News that California-based start-up lender SVB Financial had collapsed rocked the market, coming just days after the failure of crypto-currency-focused Signature Bank. The news sparked a flight out of smaller lenders, causing a group of well capitalised larger banks, such as JPMorgan Chase and Bank of America, to deposit USD 30 billion to prop up troubled lender First Republic Bank. US Treasury Secretary Janet Yellen insisted that the banking sector was “sound” and as confidence returned, US stocks staged a late-month rally. The tech-heavy Nasdaq Composite led the gains as growth-focused stocks rallied strongly, boosted by speculation that the US Federal Reserve (Fed) would be less likely to raise rates to avoid further pressure on banks. Economic data suggested that the US economy had picked up speed in March. The flash estimate of S&P Global’s US composite purchasing managers’ index reached 53.3 in March, its highest level since May 2022, thanks to robust growth in the services sector. Job growth remained strong, with consumer confidence also remaining above levels seen for most of 2022. The headline rate of US inflation continued to decelerate, falling to 6% in February, the lowest annual rate since September 2021, whilst core inflation slid to 5.5%, the lowest rate since December 2021. |
| Europe | • | European equities rose modestly over the month (in EUR terms). In early March, the FTSEurofirst 300 Index reached its highest level in more than a year, but shares subsequently fell sharply as banks came into focus following the collapse of two regional US lenders. Swiss investment bank Credit Suisse was the target of much of the negative sentiment, resulting in its enforced merger with rival UBS. The deal sparked outrage from bondholders as Swiss regulator Finma prioritised Credit Suisse shareholders over holders of the investment bank’s Additional Tier 1 debt. Nevertheless, share prices recovered in the final days of the month, lifted by hopes that central banks may rein in their rate hikes to avoid further problems in the banking sector. The flash reading of the S&P Global euro-zone composite purchasing managers’ index (PMI) rose to 54.1 in March, the strongest reading since May 2022, driven by a rebound in services sector activities. However, the manufacturing sector slid deeper into contraction territory. Headline inflation fell to a one-year low of 6.9% in March, compared with 8.5% in February, but core inflation accelerated, reaching a record annual rate of 5.7%. With inflation remaining well above target, the European Central Bank (ECB) continued to tighten monetary policy, raising rates as promised by 50 basis points (bps). Following the latest rate hike, the ECB ditched its commitment to continue raising rates “at a significant pace” and said future rate hikes would be “data-dependent”. |
| Asia | • | Asia ex Japan equity markets ended the month slightly higher, shrugging off the effects of the financial sector volatility in the US and Europe. The tech-heavy markets of Korea and Taiwan led the way, as growth-focused shares benefited from hopes of US rate cuts later in 2023 and enthusiasm around ChatGPT/AI applications. China’s equities also stabilised on signs of a determined push by the government to reboot business confidence. This included an earlier-than-expected 25 bps cut in the reserve ratio requirement (RRR). The post-Covid economic recovery so far has been mixed. While the services sector has rebounded strongly, more general consumption appears to be picking up quite slowly. ASEAN markets were mixed but mostly ended the period higher, recovering from earlier losses in the month. Singapore and the Philippines delivered the strongest gains, with Indonesia and Thailand also advancing modestly. In contrast, Malaysian stocks end the month slightly lower. |
| Bond | • | Global government bonds rallied in March. Events in the global banking sector have dominated headlines in the latter half of March, relegating concerns on central bank policy actions to the background, as investors grappled with the implications of the fallout of SVB and Credit Suisse on asset markets and the broader economy. On the policy front, global central banks acted in line with broad market expectations, with the Fed, European Central Bank and Bank of England continuing with their policy rate hikes, despite the turmoil in the banking sector. Fed Chair Powell highlighted that the committee did consider a pause in policy hikes in the run-up to the March meeting, though the Fed's updated dot-plot projections showed little change, with the median dot for the Fed funds rate at 5.1% for end-2023 and 4.3% for end-2024. |
| Outlook | • | 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. Equally, Credit Suisse has been all but underwritten by the Swiss government via UBS. However, the episode neatly highlights how protracted the process of adjusting to rapidly rising interest rates can be across the global economy. |
| • | In a period of monetary policy adjustment, the financial sector becomes the primary mechanism of transmission. Yet the consequences are typically felt with a lag of between four to six quarters. With banks only recently feeling the stress, there is reason to believe other industries and consumers have yet to feel the full effect of money once again having a cost. | |
| • | Economic indicators are thus deteriorating, albeit slowly. The latest manufacturing PMIs in the US, eurozone, the UK and China all declined by 1 point in their latest readings. US job numbers similarly show that whilst unemployment remains at a multi-decade low, the pace of hiring is decelerating. | |
| • | Softer economic data has combined with softer inflation numbers. In the US, the consumer price index (CPI) for March rose 5% year-on-year, easing to its lowest level in nearly two years. The recent financial stress has further reduced the banks’ willingness to lend. As a result, market participants now expect the US Federal Reserve to start cutting interest rates as early as September, with a peak of 5% in June. | |
| • | Yet with core CPI (which strips out volatile energy and food costs) rising 5.6%, there is reason to believe that price pressures for some goods and services will remain elevated. Central banks, thus, continue to face the difficult task of determining a policy stance that is sufficiently restrictive to lower inflation, yet not so high as to risk financial stability. Whilst the market views an error to the dovish side as, most likely, policymakers may take the view that recession and significant damage to labour markets is the necessary price to pay to mitigate cyclical inflation. | |
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As our clients know, we do not seek to take a position or even a strong view on near-term economic matters. Rather, we seek to own companies that are most likely to outperform through a range of macroeconomic environments. So far this year, quarterly sales and earnings have been robust, with a high proportion of portfolio companies beating and raising expectations for the year ahead. As the effects of monetary policy continue to work their way through the system, we remain focused on opportunities that will best compound client wealth over the long term. |
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May Issue 2023
Summary
May was a mixed month for economic datapoints, with the direction of Global Equity markets fluctuating between gains and losses. In the US, first quarter GDP was revised up on an annualised basis, as consumer spending remained resilient.