Sovereign Wealth Partners and InvestSense Pty Ltd
Overall, markets finished September generally weak with most being down around 4%, the exceptions being the UK and Japan (both ending the quarter in positive territory). Most Western markets ended up flat for the quarter having risen for the first 2 months in the goldilocks environment of strong corporate earnings results and lower interest rate expectations (caused by delta induced growth worries). More recently, growth has looked quite resilient which might force the tapering of central bank bond purchases in the near term furthermore bringing higher long-term rates.
The UK stock market has looked cheap for a while, but it wasn’t a given that its resource heavy stock market would be an ideal diversifier for Australian portfolios, but it certainly was last quarter. It’s big energy producers that ensured that it was one of the best performing markets last quarters while Australia’s big miners obviously fared less well. BHP, Fortescue, and Rio Tinto alone contributed -2% to the performance of the local market but luckily strong results and guidance form the banks (especially Macquarie Group) as well as the take-over bid for Sydney Airport (up some 40% during the quarter) kept the market in positive territory. While most overseas markets weren’t that much better off in local currency terms the relative weakness of the AUD (down 2-3% against most currencies) meant that Aussie investors would have remained in positive territory thanks to mid-single digit returns from overseas assets over the quarter.
Suffice to say that it was a noisy quarter for portfolios with biases within international equity portfolios probably having the biggest impact. Managers with Asian exposures were particularly hard hit by the Chinese government’s regulatory onslaught. While it has felt like an assault on capitalism (such as it exists in communist China), it appears to be more that Western investors are collateral damage to curb the perceived excesses that are seen to be harming the ‘common prosperity’ of the wider population. More recently debt worries have surfaced in the form of an almost bankrupt Chinese property developer. As ever, in China the proportions are epic in nature with $300bn owed and more than a million unfinished houses under construction. For that reason, Asia, and emerging markets (principally China) underperformed during the quarter but it was the companies at the positive end of the ledger that might give a bigger clue as to what is holding back the average manager. Apple made the strongest contribution followed by a host of other so-called FAANG stocks, and Tesla. Despite Apple’s undeniably strong position and cash flow generation most analysts struggle to see how investors will make money over the longer term given the multiples that many of these stocks now trade-on.
The other strong dynamic of the last quarter was within commodities, as the divergence between energy prices and industrial metals (principally iron ore) was especially extreme (iron ore fell by 50% while natural gas rose by even more). Again, China figured strongly as property development there has been one of the primary drivers of global iron ore demand and coal dependent China is also suffering energy shortages. Natural gas and other energy shortages have also been in the news in the UK, and much of this can be related to hopefully temporary supply chain disruption. However, there has also been growing talk of more permanent changes in recent weeks and the parallels to the 1970’s is getting more difficult to dismiss entirely.
Credit spreads, after having tightened earlier in the quarter giving government bond investors good returns from negative yields, eased towards the end of September. Yields in September rose to where they started the quarter, rising quite precipitously during the last week of the month.
This was supposed to be the quarter where the persistent vs transitory inflation debate would be settled. The quarter has passed and there is a growing sense that at least some of the ‘bad’ (supply chain) inflationary effects will persist into next year. There is also more talk of the prospect of too much money chasing too few goods, even when supply chains are fully restored. That makes it a good time to reassess long-term scenarios as well as how to position portfolios for the year or so ahead.
We don’t want to alarm anyone unduly, but you will, without a doubt, come across a few newspaper pieces about October being historically the most volatile month of the year (it is) but that can also be on the upside and markets, on average, also tend to rise the most in the fourth quarter. Hopefully the Americans will rearrange their debt-ceiling next week (they usually do) and then it will probably be a case of waiting to see if corporate earnings momentum is faltering or whether the reflation trade is alive and well during the upcoming earnings season.