In this month’s investor update, Pacome Breton, Nutmeg’s head of portfolio management, reflects on a strong start to 2023 in both equity and bond markets. He also looks specifically at how the reopening of the Chinese economy is helping Asian emerging markets and assesses policymakers’ reasons of optimism, despite ongoing recessionary fears.
2022 was challenging for investors. Have markets had a better start to the year in 2023?
Absolutely. Investors will be pleased to hear that January 2023 was a very strong month for equity markets across all regions. Global equities were up 4% to 7% for the month, depending on whether you measure in pound sterling or on a local currency basis.
Europe was the best performing region, as companies there benefitted from lower energy and gas prices due to very mild weather conditions. Last year, the impact of the war in Ukraine and the energy crisis made a recession in Europe seem almost inevitable. However, the risk of recession has now receded, lifting optimism and giving local equities a boost.
Emerging markets also performed very positively. Chinese equities rose 10% over the course of the month, with South Korean and Taiwanese markets enjoying similar gains. Only India performed negatively as governance issues in one of the country’s largest companies, Adani Group, impacted the market.
In the UK, the FTSE 100 was up by more than 4%, adding to the gains it made in 2022.
Within fixed income, corporate and government bonds also had a largely positive month. Energy prices and the US dollar were the only major detractors to this overall buoyant start to the year for investors.
Do you think markets will stay this optimistic?
It’s an interesting point. On the one hand, it seems clear that there is a general improvement in sentiment after a record level of bearishness at the end of last year among institutional investors and businesses alike. Lower gas prices in Europe have helped. Inflation is starting to ease, especially in the US, reinforcing the belief that price rises have peaked, which means central banks will start to have more flexibility in pausing their rate increase cycle.
Not everything is positive though. The ongoing earnings season has been relatively disappointing so far, with US company earnings overall 5% less than a year ago according to the latest results, which is a sign of stagnation. For markets to remain elevated, corporate earnings will need to be supportive, which isn’t the case so far.
Last year, the anticipated impact of rate increases by central banks was a major cause of negative equity market returns. So far this year, market optimism is centred around the expectation that central banks will stop increasing rates as inflation slows.
But, while inflation seems to have peaked, the jury is still out on whether strong labour markets and looser financial conditions could keep inflation higher for longer, reversing the optimism around the future action of central banks.
This leaves room for cautiousness, and we think the portfolios are correctly positioned on that front. But for now, we are of course happy to have seen such a strong start to the year.
What about China – is the reopening of the economy starting to have an impact?
The lifting of Covid restrictions in China in late 2022 was radical and resulted in a quick and strong rise in Chinese equities and Asian emerging markets as a whole.
At the same time, restrictive policies against some of the large Chinese tech stocks were lifted, helping China outperform developed equity markets over the last two to three months.
Looking beyond this recovery rally, we think that the Chinese economy will continue to face some headwinds and not everything will go back to normal straightaway.
We would expect the price of some commodities – like coal, copper, and oil – to rise as China reopens. They’re not spiking yet, perhaps as China is less connected to the rest of the world now than it was before Covid. But this is one area we will be monitoring closely.
The Bank of England recently increased interest rates by another 0.5%, taking the base rate to 4%. It also upgraded its outlook for the UK economy. What do you make of this?
Well, the data is very mixed. The Bank of England has lifted its growth forecast for the UK – it now thinks the economy will contract by just -0.5% rather than -1.5% as it envisaged in November. While this would mean the UK still enters a recession, the Bank thinks it will be much shallower and shorter than what was previously expected. The positive impact of declining gas prices is one factor making the Bank more optimistic. On the other side, an IMF projection released earlier in the month gave a more pessimistic view on the outlook for the UK. It downgraded the forecast it had made in October, while upgrading its outlook for the US, France, and Germany. It thinks the UK will be the only economy to have a recession among large, developed countries in 2023.
The fact that institutions have such different outlooks – and keep having to revise them – highlights the complicated nature of the UK economy. We think that, while some headwinds remain, a drop in energy prices, the potential for rates to stop increasing earlier than initially anticipated and an extremely robust job market, are reasons to become more cautiously optimistic on the domestic economy.
Have the portfolios had a good start to the year?
Yes, the market environment has been supportive so far this year – as we’ve already discussed, both bonds and equities performed well in January. This means that the Nutmeg portfolios enjoyed gains over the course of the month.
You may remember that in December we made some changes to the portfolios. We adjusted our exposure to equities and bonds to help balance risk in the current macroeconomic environment. We’re pleased to see some of these changes are paying off – we increased our exposure to emerging markets, for example, which have had a good start to the year.
Of course, we think about the asset allocation of our portfolios with the long term in mind. The investment team and I are reviewing how we can best deploy the cash weighting within the portfolios over the coming months to take advantage of any opportunities – and we’ll be sure to update you when we do.
The Nutmeg investor update is available as a podcast, listen to this month’s update below.
About this update: This update was filmed on 7th February 2023. All figures, unless otherwise stated, relate to the month of January 2023.
Source: MacroBond, Nutmeg and Bloomberg.
As with all investing, your capital is at risk. The value of your portfolio with Nutmeg can go down as well as up and you may get back less than you invest. Past performance and forecasts are not reliable indicators of future performance.