The size and pace of the moves in rates hit risk assets hard, with equities and bonds simultaneously seeing a large fall. At a broader asset class level there were very few positive news stories, with only commodities delivering positive real returns over the year.
Bonds/Fixed Income
Bonds failing to offer any protection has been one of the most significant challenges faced by investors in 2022, with the year being one of the worst for the bond market over the last century. The Bloomberg global aggregate bond index ended the year with a return of -16%, with lows around -22%. Understandably, duration suffered more greatly with UK GILTs over 15 years ending the year down 40%.
Global markets
Despite the political and economic backdrop, the UK stock market was anomalous within developed market equities and the FTSE 100 index ended the year with a positive 5% total return. This was buoyed by a larger weighting to energy, and exposure to ‘old-economy’ type stocks which have held up much better than high growth, longer-duration type companies that tend to operate in the technology sector. In contrast to the UK, the growth-bias S&P 500 index, which tracks US stocks finished the year down 18%, and the technology dominated Nasdaq composite index ended the year down over 32%. European equities have also seen high volatility over the year, being the most directly impacted by the ongoing Russia-Ukraine war. Despite the European energy crisis having not yet been as severe as many expected, the MSCI Europe ex UK index ended the year down 13%. Within Asia, Japanese equities have held up relatively better (TOPIX -4%), with a weak Yen benefiting exports and stronger growth in corporate earnings relative to other major economies following re-opening. China’s ongoing zero-covid policy continued to be a burden for Chinese equities as investors continued to digest government regulations from the prior year and assess the implications. Growing optimism for an end to the zero-covid policy saw some promising signs of a sea-change late in Q4, however MSCI China index remained down 19% for the full year.
Real Estate Investment Trust (REIT) share prices also saw sharp drawdowns throughout the year, with UK listed REITs ending the year down 32%. A deteriorating picture for economic growth combined with rising bond yields have been key headwinds for the sector. With the moves that we have seen and yields now currently on offer, there appears to be some attractive opportunities in higher quality areas.
Alternatives
Across alternatives, direct infrastructure performance has been mixed, with projects not immune from higher discount rates, but quality assets with inflation linkage holding up better. Refinance risk across the sector is low, with funds typically having long-dated fixed rate financing which amortises over the life of the projects, and there are also cash elements within the funds which will benefit from a higher interest rate. Renewables funds have continued to benefit from higher power prices and recent results across the sector have shown strong cash flows and solid returns. Although power prices may be expected to come down to more normal levels and fund returns will follow, yields between 5-6% and the quality of the income should keep the sector competitive.
The conflict in Ukraine has had a major impact on prices of key commodities, from oil and gas through to steel and grains. Russia’s invasion of Ukraine triggered an unprecedented wave of sanctions against Moscow which exacerbated pre-existing supply-demand imbalances. Commodities could be argued to have played a defensive role through 2022, providing some protection against persistent inflation and the possibility of an escalation of conflict. The Goldman Sachs Commodity Index provided returns of 24% with Brent Crude up 10% and ending the year at $86 a barrel, having reached highs of around $130 in the first half of the year. Gold was flat for the year with a rally late on in Q4, as investors begin to entertain the possibility of peak rates on the horizon.
Predictions
Looking into 2023, central banks are likely to remain offensive until we see a substantial moderation in inflation. Higher prices are continuing to squeeze both consumers and corporate profits, and recession is now all but inevitable in Europe and increasingly likely in the US.
We go into 2023 with a substantial amount of froth taken off equity valuations, bonds offering a return and the ongoing conflict, inflation and recession risk factored into prices to a degree. Although more unknowns will always be on the horizon, this is a very different starting position to the beginning of 2022.
Years of supportive monetary policy characterised by low interest rates resulted in investors searching for yield, this has led to investment further up the risk curve. Over the past decade, having a large allocation to US equities particularly US technology companies, provided strong returns experienced by few other equity indices for comparatively low volatility. These long-term trends reversed sharply in 2022, we now find ourselves in an environment where monetary support has been withdrawn and volatility has returned. This is not a bad thing, as with volatility comes opportunities. It is through these periods that active managers with the discretion to be selective, identify attractive investments and hold their nerve through uncomfortable periods have the potential to plant seeds for strong future investment returns.
The value of an investment and the income from it can fall as well as rise, and investors may not receive back the amount they invest. Past performance is not a guide to the future.