Following a difficult first half to the year, global equity and bond markets rebounded strongly in July.
During the month, investor attention shifted from rising inflation and interest rates towards the potential impact this will have on economic growth. Investors started to worry that rising interest rates may trigger a downturn in economic activity. This led to speculation that the US Federal Reserve (Fed) would cut rates next year, the prospect of which was a huge boost to equity and bond markets.
In July, the Fed delivered its second consecutive 0.75% interest-rate increase, while the European Central Bank (ECB) surprised the market with a 0.5% rate rise.
In the US, equity markets shrugged off the interest-rate rise and enjoyed their best month for two years to be the top-performing regional market in July. The MSCI USA Index was up 9.3% thanks to the outperformance of technology and consumer discretionary (companies that sell goods and services that are considered non-essential by consumers) stocks, sectors which are especially well represented in US indices.
This was part of a notable change compared with the first half of the year as investors moved away from ‘value’ stocks, companies whose share price is low relative to their value, and into ‘growth’ stocks, companies that get their value from the rate at which they are expected to grow their profits in the future. Consequently, the MSCI World Growth Index jumped more than 11.5% in July with the MSCI World Value Index gaining 4.6%.
European equities also performed well with the MSCI Europe ex UK Index returning 5.4%. While shares in energy companies declined in June as oil and gas prices fell, they resumed their upward trajectory in July. The increase in energy prices, driven by the ongoing conflict in Ukraine, has impacted Europe’s economic prospects. Indeed, the region’s reliance on Russian energy imports caused the euro to US dollar exchange rate to be one for one in July.
Elsewhere, UK equity markets were also positive in July. The FTSE All-Share Index, representing nearly all the UK stock market, returned 4.6%. Meanwhile, the FTSE 250 Index, made up of the 101st to the 350th largest companies, was up 8.5% as small and mid-cap stocks benefitted from investors moving from value to growth stocks and being willing to take more risk.
Emerging markets saw a modest decline, largely due to the debt problems of China’s property sector. In July, reports emerged that Chinese property owners were refusing to pay mortgages on unfinished homes that were already declining in value. These factors contributed to the MSCI China Index decreasing by 9.4%. This also impacted the MSCI Emerging Market Index which, despite some robust gains from other index constituents, declined 0.2%.
In fixed-income markets, riskier assets outperformed with high-yield bonds (issued by companies with lower credit ratings) outpacing investment-grade corporate bonds (issued by companies with higher credit ratings). It was also a positive month for government bonds, as hopes that the Fed might reduce interest rates in 2023 buoyed investors, despite the further interest-rate increases expected in the near term.
(All figures in US dollars ($) unless otherwise stated.)
The Compass Portfolios delivered attractive positive returns in July, buoyed by a strong rebound in our equity holdings and robust returns from our fixed-income holdings.
July saw a substantial rebound in equity markets driven by ‘growth’ names. We increased our equity weighting toward the end of the month providing an additional boost to performance in July.
Given the change in market sentiment, our allocations focused on ‘growth’ generally outperformed those with a ‘value’ orientation. In absolute terms, the Sands Global Leaders Fund was the biggest contributor to returns in July; it benefitted both from the tailwinds for ‘growth’ investors as well as good stock selection in the month.
Meanwhile, our more value-focused managers generally did a good job of outperforming their respective benchmarks in July.
Our fixed-income holdings were also positive in July as yields broadly fell across markets (meaning bond prices rose) while our slight bias towards US Treasuries (government bonds) was another small boost.
In the alternatives allocation, our holdings focused on inflation provided strong returns. However, these were outweighed by losses from other strategies such as the JPMorgan US Opportunistic Long-Short Equity Fund, which declined due to its defensive positioning in a steeply rising market.
In July we implemented a new framework that ensures the size of the holdings within the portfolios more consistently reflect conviction, risk and cost. This has impacted the equity portfolio which has seen some new additions. The ongoing rebalance will be conducted over several weeks, concluding before the end of the quarter.
Global economic activity numbers have continued to slow in recent months while consumer confidence is ebbing in the face of interest-rate rises and higher energy costs that risk tipping numerous economies, especially those in Europe, into an economic downturn.
However, so long as unemployment rates stay so low, we remain optimistic that a meaningful global economic downturn is unlikely. We remain broadly positive on the medium-term outlook and are already seeing signs that economic data are improving. We continue to look for signs of fundamental weakness but economic numbers remain surprisingly resilient.
The impact of slowing economic growth and high inflation on company profits will, inevitably, vary by region and industry, but company earnings are holding up well while the dispersion in companies’ fortunes should provide plenty of opportunities for active managers.
Fixed-income assets are now more attractive than they’ve been for a long time. Meanwhile, higher government bond yields (meaning lower prices) should allow them to provide useful diversification for multi-asset portfolios once more.
Performance summary (%)
Source: Quilter Investors as at 29 July 2022. Total return, percentage growth, net of fees of the A USD Acc share class rounded to one decimal place. The Old Mutual Compass Portfolios were launched on 19 April 2016 as a sub-fund of Merian Global Investors Series PLC and were merged on 7 June 2019 into the Quilter Investors Compass Portfolios. The performance history shown includes the performance of the of the Old Mutual Compass Portfolios from 19 April 2016 to 7 June 2019 until the funds merged.