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Summary Review of March 2023

Date:
Author:
Gill Hutchison
IA Sector:
N/A
Asset Manager:
N/A

An extraordinary month brought a choppy first quarter to a close. There was a surge in volatility for both equity and bond markets after the collapse of Silicon Valley Bank stoked fears of wider issues for the banking sector.  The rapidly orchestrated take-over of Credit Suisse by UBS sent another shockwave through financial markets and led investors to speculate where the next domino might topple.  However, with the authorities taking swift action to shore up confidence, enthusiasm for risk assets returned swiftly, enabling most global bond and equity markets to end the month in the green.

Backdrop

  • UK politics: Chancellor Hunt presented his Spring Budget, where a surprise relaxation of the pension rules - part of a package of measures to encourage people back to work - attracted particular attention. The Chancellor was keen to emphasise his intention to be fiscally prudent, citing his aim to keep public sector net borrowing below 3% of GDP.   After a fractious campaign, Humza Yousaf became the new leader of the Scottish National Party after Nicola Sturgeon’s sudden resignation.
  • UK economics:  Data continued to point towards a febrile backdrop for the UK economy.  GDP inched ahead to +0.3% in January and was revised upwards to slightly positive for Q4 last year.  The housing market continued to soften as higher mortgage costs weighed.  Prices in the shops rose further and job vacancies ticked higher, with companies reticent to hire new staff in view of a worsening outlook.  Although year-on-year pay growth rose in nominal terms, the after-inflation effect meant that wages dropped by over 3%.  The most recent annual inflation data surprised to the upside, remaining at over 10%, reflecting rising prices in hospitality, as well as in services, stoking fears that inflation is continuing to seep through the economy.  Nonetheless, there was a surprise surge in retail sales over the month, despite the apparent pessimism from consumers.
  • Global economics:  The persistence of inflation continued to be a major preoccupation and, before the dramatic news from the banking sector, investors had continued to notch up their expectations for terminal interest rates.  However, this ongoing debate was side-lined by the demise of Silicon Valley Bank (SVB) and Signature Bank, the teetering of First Republic Bank, and the take-over of Credit Suisse AG (wiping out certain bondholders in the process).  Questions about the resilience of the banking sector more broadly led to a reappraisal of the outlook for interest rates, with investors speculating that central banks might call time on the current cycle of rate rises. Meanwhile, economic activity in China accelerated as the country emerged slowly from its COVID-19 hibernation.  At the annual session of the National People’s Congress, President Jinping was sworn in for an unprecedented third term.  Beijing set a modest economic growth target of around 5% for the year, suggesting less of a growth boost to the global economy than many had hoped.
  • Monetary policy:  Early in the month, central banker rhetoric left investors in no doubt about their focus upon the control of inflation, indicating that they would push on with interest rate increases as deemed necessary.  Indeed, the US Federal Reserve Chairman Powell indicated that rates could reach as high as 6%.  Despite troubling news from the banking sector, the bank raised the Fed Funds rate by 0.25% (to a range of 4.75%-5%), pushing borrowing costs to the highest level since 2007.   The bank also warned that recent developments are likely to result in tighter credit conditions for households and businesses and weigh on economic activity, hiring and inflation. The ECB also pointed to the need for several more hikes to bring inflation under control, raising its policy rate by 0.50%.  The Bank of England raised the base rate by 0.25% (to 4.25%) and signalled that further increases could be necessary if price pressures persist.
  • Global politics and events:  President Xi Jinping met with President Putin at the Kremlin and although they exchanged words of friendship, there was no diplomatic breakthrough regarding the war in Ukraine.  Japanese Prime Minister Kishida visited Kyiv to offer support to Ukraine.  In France, mass strikes and protests took place after President Macron vowed to push on with a deeply unpopular pension reform. There were protests in Israel over Prime Minister Netanyahu’s plans for judicial reform.  Donald Trump was indicted, making him the first serving or former president to face criminal charges.

Equity markets

  • March was a roller-coaster month for equity markets.  Sentiment was already fragile when Silicon Valley Bank was thrusted into the limelight and markets dropped away sharply in response.  Banks, which had been a popular sector amongst investors who saw them as natural beneficiaries of higher interest rates, saw their share prices plummet, with those perceived to be weaker (particularly the smaller banks in the US) under the most pressure.
  • However, the negativity did not last for long.  The authorities acted quickly to staunch the immediate danger and investors’ nerves were also soothed by hopes that interest rates may not need to rise as far as had been feared.    Despite the tricky backdrop, risk appetite returned as the quarter ended and equity indices pushed higher.  This resulted in a “short squeeze”, whereby investors expressing negative views were forced to close out their positions as asset prices rose.  It was also notable that market leadership was narrow, meaning that some sectors and stocks (notably large-cap technology stocks) forged ahead while other areas were little changed.
  • UK equities performed poorly versus global peers in March.  The banking sector was very weak, as were other financials, energy and tobacco.  Small and mid-cap indices underperformed the large-cap index.
  • Looking at the quarter overall, global equities delivered a strong positive return, belying the intra-quarter volatility and episodes of turmoil.  “Growth” equities raced ahead of the pack as optimism about an end to interest rate rises grew.  It was also a better period for large-cap stocks.  The UK market underperformed its global peers, held back by some of the defensive areas, together with energy and basic materials.

Bond markets

  • Market turmoil in the wake of the SVB, Credit Suisse (et al) news saw wild swings in bond yields.  Prior to this, bond prices had been falling in response to the persistent and broadening inflation problem, but these events triggered a slide in bond yields (bond prices up) as the outlook for interest rates was re-set and investors sought out the relative safety of fixed income securities.  The moves were dramatic, with US yields seeing their worst three-day slump since 1987.  Against this changed backdrop, bond investors enjoyed positive total returns for the month, despite elevated volatility.
  • UK gilts, particularly longer maturities, were in the vanguard.  Widening credit spreads saw corporate bonds underperform government bonds but, broadly speaking, they still generated a positive result.  Spreads widened as credit markets began to price in prospects for slower economic growth and a more difficult outlook for companies.
  • It was an uncomfortable month for holders of certain bank securities following the news that the price of Credit Suisse “AT1” bonds had been taken down to zero, forcing bond investors to take losses ahead of equity holders.  This was a highly controversial event, given that a rapid change in Swiss law had effectively upturned long-established norms.  AT1 bonds have been a popular source of additional yield for professional bond investors but this event will alter the risk lens through which they are analysed in the future.
  • For the quarter overall, the changed outlook for interest rates and economic growth helped government bonds and corporate bonds to register positive total returns.

Commodity and currency markets

  • The oil price was little changed over the month, despite a lurch down mid-month as news from the banking sector knocked risk assets.  With regard to supply and demand dynamics, Russia indicated that it intends to maintain output at a reduced level, while China’s oil demand is expected to grow this year.
  • It was a stellar month for precious metals.  Gold and silver prices rose strongly, supported by increased demand for safe-haven assets, together with a more dovish outlook for interest rates.
  • Sterling strengthened versus the US dollar.  This had the effect of dampening the returns available from some overseas portfolio allocations.
  • After a miserable 2022, crypto currencies rebounded strongly in the first quarter, surging ahead during March in particular.

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