Market Opinion - August 2022

Market Opinion - August 2022

August proved to be a slower month for global equity markets, with many markets experiencing declines. The recurring themes of rising costs and increasing interest rates continued to impact the markets. However, emerging markets offered a glimmer of hope as they outperformed the rest of the world.

Europe saw negative performances in its equity markets, partly due to the Federal Reserve's commitment to raising interest rates. Inflation reached a new high of 9.1%, surpassing expectations, driven by increased costs in wholesale energy and commodities like wheat. Pressure is mounting on the European Central Bank to take more aggressive measures and raise interest rates in September. Additionally, Spain announced plans for a new gas pipeline link to France, aiming to reduce Europe's dependence on Russian gas.

Similarly, the UK markets suffered in August due to concerns over central banks' potential aggressive interest rate hikes. The Bank of England raised rates by 0.5%, the largest increase in 27 years. Inflation reached 10.1% in July and is projected to rise to 13.1% by year-end, raising the possibility of a recession. UK consumer confidence plummeted to its lowest level in 50 years, reflecting the worsening cost-of-living crisis.

In the US, after an initially promising start, markets declined in August. The Federal Reserve maintained its commitment to combat inflation through interest rate hikes, contrary to some expectations. While inflation seemed to have peaked in June at 9.1%, core inflation (excluding food and energy) remained above target. However, the US economy exceeded expectations in terms of new job additions, alleviating concerns of a recession. Job levels have now returned to pre-pandemic levels.

Asian equities were also negatively impacted by the Federal Reserve's aggressive stance. Chinese markets remained flat, but the People's Bank of China implemented interest rate cuts to stimulate economic growth. India stood out as the top performer in the region and globally, with the Reserve Bank of India raising rates higher than expected. Japanese markets received a boost from reports of eased Covid restrictions and the planned daily arrival of 20,000 tourists.

Emerging markets achieved marginal gains, once again outperforming the rest of the world. EM Asia, led by India, demonstrated strength, while Thailand, Indonesia, and the Philippines also showed improvement. EM Latin America traded sideways but still outperformed developed markets, with Brazil leading the gains while Colombia and Mexico lagged behind. In EM Europe, Middle East & Africa (EMEA), Turkey experienced a strong rally supported by new government regulations on bank lending. Conversely, Poland faced setbacks due to the gas crisis, halting nitrogen fertilizer production.

The bond markets were spooked by the potential aggressive tightening of monetary policy, as central banks signaled interest rate increases. The Federal Reserve reiterated its stance on inflation control during the Jackson Hole summit, resulting in a sell-off of government bonds. UK gilts were particularly affected. Corporate debt markets also struggled, with losses seen across sterling, euro, and US dollar denominated bonds.

In terms of Environmental, Social, and Governance (ESG) matters, Asia took the spotlight in August. The region experienced significant developments in ESG regulation, with over 200 relevant regulations now in place, double the number since 2016. Key areas of focus included corporate disclosures, greenwashing, climate risk, and taxonomy. China, for example, published one of its first voluntary ESG disclosure guides, aligning with global standards and promoting easier comparability of standards worldwide, thus driving ESG investing in Asia.

European shares faced declines in August, influenced by the US Federal Reserve's commitment to raising interest rates at the Jackson Hole summit. Most sectors, except for energy, ended the month in negative territory, with real estate and information technology leading the losses. Eurozone inflation reached a new record of 9.1%, surpassing expectations. Wholesale gas and electricity prices surged, impacting agricultural commodity costs such as wheat. Calls for the European Central Bank (ECB) to raise interest rates more aggressively in September grew louder. Eurozone government bonds sold off, resulting in higher yields, as expectations rose for the ECB to implement its first-ever 0.75% interest rate increase. Despite high inflation, the eurozone jobless rate fell to a record low of 6.6% in July. The flash Purchasing Managers' Composite Index (PMI) for the eurozone dropped below 50 for the second consecutive month, indicating contracting business activity, primarily driven by Germany and France. The ECB injected billions of euros into weaker eurozone debt markets, highlighting its efforts to keep borrowing costs low for countries like Italy. In other news, the EU prepared emergency measures to address the rising price of electricity, including separating it from gas costs and considering reforms to incorporate cheaper renewable energy in price determination.

In August, the UK equity market closed lower as concerns about more aggressive interest rate hikes from central banks raised fears of a global economic downturn. The Bank of England implemented its largest interest rate increase in 27 years, raising rates by 0.5% points to 1.75%. The central bank also forecasted that inflation would rise above 13% by the end of the year, and the country would experience a 15-month recession with a GDP contraction of over 2%.

UK inflation reached 10.1% in July, driven primarily by higher food prices, surpassing expectations. Inflation in the UK was higher than in other G7 countries and most European nations. The Office for National Statistics reported that the UK economy contracted by 0.1% in the second quarter, mainly due to the impact of the rising cost of living on consumer spending. The decline in output was notable in the services sector, particularly in health and retail, although there were some improvements in services related to the recovering travel sector.

The British pound experienced its sharpest decline against the US dollar since the Brexit referendum in 2016, falling 4.5% in August. It also declined by nearly 3% against the euro during the same period. UK government bonds, or gilts, had their largest monthly fall in almost 30 years amid concerns of a prolonged recession and increased government borrowing.

UK consumer confidence reached its lowest level in nearly 50 years, according to data from Growth for Knowledge (GfK). The overall consumer confidence index for August dropped to minus 44 from minus 41 the previous month. Rising living costs raised concerns about personal finances and the economic outlook.

In the US, stock markets initially enjoyed a summer rally but reversed course after the Federal Reserve's unexpectedly more aggressive stance on inflation. At the annual Jackson Hole meeting, the Fed signaled a commitment to fighting inflation, suggesting further interest rate hikes and balance sheet reductions. This went against investor expectations of a pivot towards lower interest rate rises due to concerns about a potential recession.

The US labour market unexpectedly added 528,000 new jobs in August, surpassing forecasts. The unemployment rate dropped by 0.1% to 3.5%, matching its pre-pandemic low in 2020. While this relieved concerns about the slowdown of the US economy, it also provided further justification for the Fed's aggressive rate hike path.

Asian equity markets ended the month lower, with investor sentiment dampened by the Fed's reaffirmation of its aggressive stance on inflation. China's equities were affected by weak macroeconomic data and rising European energy prices, while India outperformed the region for the second consecutive month.

Emerging markets had a slight gain, outperforming developed markets. EM Asia led the region, followed by Latin America and EM Europe, Middle East & Africa (EMEA). Turkey was the standout performer, while Poland detracted from the overall performance.

Bond markets were unsettled by the prospect of significant interest rate hikes from central banks, including the US Federal Reserve, European Central Bank, and the Bank of England. Rising food and fuel prices, particularly in Europe, contributed to inflationary concerns. In the euro area, consumer price growth reached a record high of 9.1% in August, while the UK's annual inflation rate exceeded 10% for the first time in four decades. US treasuries experienced a monthly loss, and government and corporate bonds in various currencies faced declines.

In terms of ESG (Environmental, Social, and Governance) investing, Asia has seen significant regulatory developments with over 200 regulations in the region, double the number in 2016. Key trends include corporate disclosures, addressing greenwashing, climate risks, and taxonomies. The focus on ESG regulation aims to improve.