This article has been written by an expert contributor, Kerry Craig, Global Market Strategist, J.P. Morgan Asset Management.
Bull in a China shop
November was a strong month for risk assets even as economic data in many parts of the world continued to deteriorate. The market was buoyed by the prospect of slowing inflation and that central bank policy would shortly follow suit. Meanwhile, there were signs that China was adjusting its approach to COVID, even as the rather restrictive policies remain, boosting hopes for a full re-opening the economy in 2023.
Developed market equities gained 5.77% over the month, while emerging market equities gained 11.7% driven by strength in the Hong Kong (26.8%) and Chinese equities (28.4%). Global bond yields fell sharply, and the Global Aggregate Bond Index rose 4.7% (total returns, local currency).
Central banks are not done with this rate hiking cycle but November gave a clearer indication that they were closer to the end. The U.S. Federal Reserve and the Bank of England increased policy rates by 75bps in November, and the Reserve Bank of Australia (RBA) by 25bps. But November seemed to mark the peak in terms of the outsized rate increases and a downshift to more ‘normal’ size moves. Add to this the October U.S. Consumer Price Index inflation report which saw inflation decline to 7.7% year-over-year (y/y) and the market really latched onto the idea that the end of the rate hiking cycle was not far off.
China’s policies on containing the spread of COVID has waxed and waned over the year, created a very fatigued population as they have endured a prolonged period of restrictions on everyday life. The latest announcements signal a shift as control measures were eased. However, the ability of the virus to spread quickly in densely populated areas could quickly overrun the hospital system. This means that progress towards re-opening the economy will be slow and likely staggered. Still, a resumption in economic activity in China in 2023 would be a benefit for not only the Chinese outlook, but those of its trading partners as well.
The rally in both bonds and stocks heading into the final month lends weight to the seasonal Santa rally. However, financial conditions remain tight and the lagged impact of higher rates on the global economy is still emerging. Inflation has only shown tentative signs of easing and a stronger or above expectation figure in the coming months could unwind much of the current market sentiment. Meanwhile, there is a clear slowing in the global goods sector as PMI manufacturing survey figures have fallen into contraction territory for most developed market and many emerging ones, signaling a rising chance of recession in the coming quarters. The market rally in October and November is a welcome change, but too early to call it the start of a new bull market.
Economy:
- A feature of the economy in 2022 has been the resilience of the consumer. However, the fading effects of fiscal transfers, higher inflation and tighter monetary conditions may finally be starting to bite. Retail sales fell 0.2% month-over-month (m/m) for October, the first negative month since re-opening from COVID. Still, compared to a year ago, retail sales were 12.5% higher.
- The RBA’s Statemen of Monetary Policy for November forecast inflation to peak at 8% y/y in the fourth quarter and remains above the RBA’s target band across the forecast period. While the market is focusing on the shift to a pause, the risk of a prolonged hiking cycle remains.
- The October labour market report saw the unemployment rate decline marginally to 3.4% as 32,200 jobs were further added in the month. This put the unemployment rate at a 50-year low. Meanwhile, the quarterly wage price index showed that wages were 3.1% higher than a year ago as the lift in minimum and award wages started to filter through. The rest of the change should appear in the December data.
- The slide in house prices continues and prices are down 7% from their peak this year. Higher interest rates and falling house prices are impacting approvals data and building approvals were down 5.8% m/m for September. The lagged impact of monetary policy means that these indices should fall further. While there is increasing speculation on the impact that re-setting of interest rates will have on the housing market in 2023, in the medium term, the stronger population growth and increase in net migration are supportive for the housing market.
Equities:
- The November 5.7% gain added to the 7.2% rise in the MSCI World in October. Despite these large moves in global equities, the Australia market continues to outperform. The ASX 200 rose by 6.6% in November as the RBA’s relatively dovish 25bps rate hike in November contrasted the large moves globally. This pushed the ASX 200 back into positive territory for the calendar year (2.2%).
- All sectors in the ASX 200 were up for the month. The largest gainers were utilities (20.8%) and materials (16.3%), while telecoms (2.1%) and financials (2.5%) were at the other end of the performance scale.
- The easing of hiking pressure from central banks has given equities more room for valuations to rise. The forward earnings multiple on the Australian equity market has shifted from 17.7x in December 2021 to a low of 12.5x in September but since rose to 14.6x at the end of November.
- However, the risk to the equity market locally or internationally is not from valuations but earnings. The headwinds to economic activity may start to manifest in earning downgrades, which could limit further rise in the equity market or create future pullbacks. Earnings revision ratios for Australia, Asia ex-Japan and Japan remain in negative territory.
Fixed income:
- Bond yields fell over the month as markets price a rising risk of recession in 2023 in the U.S. and investors sought the safety of duration, but also a decline in the inflation outlook. The smaller rate hike by the RBA in November helped the ACGB market rally. Australian government bonds fell by 32bps to 3.5%. U.S. treasury yields at the 10-year maturity also fell on a more dovish tone from the U.S. Federal Reserve. The U.S. 10-year Treasury ended the month at 3.7%.
- In local currency terms, emerging market debt (6.9%) was the strongest performer across fixed income sectors. However, there was a strong showing for credit broadly as global investment grade rose 5.5% and global high yield was up 3.2%.
Other assets:
- The Australian dollar gained 4.7% vs. the U.S. dollar over November. The U.S. dollar weakened against most major currencies given the shifting rates views. Against the U.S. dollar, the Japanese yen gained 6.5%, the euro 4.2% and the British pound 3.4%.
- Oil prices fell over the month to USD 85 per barrel as the price cap on Russian oil exports loomed. There were some fears that this would adversely increase the price of oil. However, Organization of the Petroleum Exporting Countries+ members have stated that they would intervene to stabilise the market if needed. The price of iron ore fell to USD 82 a ton given some seasonal demand impacts.
- Meanwhile the price of gold gained and the price per ounce rose to USD 1,753 as both the U.S. dollar fell and real yields rose.
For more from the author, Kerry Craig, check out our recent episode with Kerry on the Equity Mates Investing Podcast on 13/10/22. Expert: Kerry Craig – J.P. Morgan Asset Management – State of global markets and what it means for investors
Kerry is responsible for communicating the latest market and economic views from J.P. Morgan Asset Management’s Global Market Insights Strategy Team. With more than 10 years’ experience, Kerry provides valuable insights and perspectives on the economy and markets to investors. As a frequent commentator on Bloomberg, CNBC, the AFR and the wider financial press, Kerry is able to explain complex economic and market issues in a language that investors understand.
Prior to making an investment decision, retail investors should seek advice from their financial adviser. This document is intended as general information only.