Oct 3, 2022
Although well-diversified portfolios can provide downside protection during periods of market volatility, persistent macro-economic conditions have negatively impacted most asset classes for the quarter. Inflation, which became prominent at the beginning of 2022, is being exacerbated as global economies are now faced with increasing wage pressures, labour shortages and prolonged, higher energy prices.
Higher interest rates are yet to have their desired impact of taming inflation which has caused global Central Banks to reiterate their hawkish outlook, with global interest rates now expected to reach 4% in 2023. On average, Central Banks increased interest rates by 1.3% for the quarter. This rhetoric has resulted in a poor quarter for both bonds and equities on an international and local level. Whilst volatility is disconcerting, it is important to remember that market volatility is a normal part of investing.
After a dismal first half to the year, the MSCI All Countries World Index increased 6.9% in July, spurring hopes that the market was beginning to trim the losses it had experienced. Investors, however, were quickly reminded that global Central Banks are committed to reigning in inflation as interest rates were increased across the board, diminishing returns for the proceeding two months. The index ended the quarter -7.3%, with the September month posting the worst return since the onset of the COVID-19 pandemic in March 2020.
In an environment of uncertainty, prudent portfolio diversification remains our key defence, including increasing exposure to global markets which trade at more reasonable valuations and should provide some medium-term hedge against inflation.
Both government and corporate bonds yields rose significantly in the quarter (i.e., the prices for them fell) after poor inflation readings prompted global investors to believe that interest rates will continue to rise. Quoting labour shortages and wage increases, the RBNZ announced two 50 basis point (half of one percent) increases this quarter and continues to plot a path of more rises as it tries to curb inflation.
At the beginning of the quarter, implied interest rates suggested that markets were expecting the RBNZ’s base rate to peak at 4% in mid-2023. As the quarter progressed and inflation readings remained elevated, this was revised to 5%, with investors now anticipating higher inflation and interest rates for longer. This saw New Zealand’s 10-year government bond yield increase from 3.9% to 4.3% over the quarter. This was not specific to the New Zealand market as global government bond yields rose significantly in the quarter, as interest rates and bond yields are positively correlated, i.e., they tend to move in the same direction.
On a portfolio level, as yields and bond prices are negatively correlated, this has hit capital values, with New Zealand government bonds and investment grade corporate bonds declining -1.9% and -1.0% in the quarter, on a total return basis.
New Zealand equities fared better than most equity markets this quarter, with the NZX50 increasing by 1.8%. Of the larger weighted companies, A2 Milk (+24.1%), Air New Zealand (+25.4%), and Tourism Holdings Ltd (+20.7%) produced positive returns this quarter. Revaluations continued for Restaurant Brands (-29.2%) and My Food Bag Group (-26.5%) progressing their year-to-date declines.
Australian equities ended the quarter down after a decrease of -7.3% in September erased gains made during the first two months. The ASX200 performance has been lifted by the Energy sector which was up +2.3% for the quarter and +41.4% for the year to date. Healthcare (+2.6%), Technology (+2.5%) and Finance (+0.7%) were the only sectors to increase over the quarter. The Reserve Bank of Australia’s (RBA) dovish interest rate increase of 25 basis points suggested that the country is benefitting from a more diversified economy. In New Zealand dollar-terms, Australian equities rose +1.1% due to a weakening NZ dollar.
Europe has suffered disproportionately to global equities this year due to its direct exposure to the Ukraine war. The third quarter proved no different as it underperformed markets by 5.0% with a return of -10.3% (in US dollar terms), although returns are slightly better in local terms as the USD strengthened against the Euro. The UK’s poor monetary policy and political issues saw the pound (GBP) decrease to its lowest level against the US dollar since 1985, decreasing by 8.3%. This was the pound’s largest quarterly decline since the 2008 financial crisis. UK government bonds underperformed against all global peers with prices falling by 14.1%, with the UK 2-year government bond reaching 4.65% in the quarter.
The US Federal Reserve hiked their base rate by 1.5% to cool the economy. In the quarter, the S&P 500 fell 5.3%, while the tech-heavy Nasdaq fell 4.6%. The temporary recovery in July provided respite to markets, however, year-to-date the S&P 500 and the Nasdaq are down 24.2% and 33.1%, respectively. New Zealand based investors were less affected as the USD strengthened against the NZD (+11.6%), over the quarter.
For investors, another consecutive quarter of bad news can be worrying. Despite the poor performance of investment markets year-to-date, we still believe it is imperative to strategically build a portfolio that is centred around helping you achieve your long-term goals amid these short-term challenges. We are here to help you by providing robust, diversified portfolios which can weather the downturns and remain well positioned for recovery, when that occurs.
Our goal at Trustees Executors is to protect our clients’ financial security and to help you realise your financial goals. If you are feeling anxious about market volatility, please contact us. A financial adviser can offer you some perspective and support. As always, it is important to periodically review your current investment strategy to ensure it is right for you and serves your objectives.
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