Global equities bounced off their lows in October as the S&P gained 7.99% (USD), The Dow Jones Industrial Average® gained 13.95% (USD) and the tech heavy Nasdaq 100 gained 4.00% (USD) for the month of October. Value stocks outperformed growth as earnings season kicked into high gear and Federal Reserve (FED) watch continued. The market appears to have taken some support from the idea the FED could soon begin to scale back on the pace of its tightening program in the months ahead. With a 75bps rate hike announcement at the 11/2 meeting, the focus now turns to the language used by Fed Chair Jerome Powell regarding pausing to evaluate the impacts of policy decisions to date. Futures markets are currently pricing in a 50bps hike in December, followed by another 25bps in January 2023. Global equites rallied in October as earnings came in better than expected, not that earnings were good, but the expectations had been much worse. The rise came in spite of the FED confirming that tighter monetary policy is still needed to contain elevated inflation. Economic data was also mixed. Industrial data looks set to weaken further at the start of Q4, with the ‘flash’ composite purchasing managers’ index (PMI) falling from 49.5 to 47.3 in October.
Geopolitical risks remained at the forefront of investors’ minds, with tensions between Russia and Ukraine escalating further. However, there were some reasons for optimism. Global supply chain constraints continued to ease, and European governments took further steps to dampen the impact of the energy crisis and mitigate the risks of a harsh recession. The combination of high inflation and solid labor markets continued to support hawkish action from central banks. The European Central Bank (ECB) announced another jumbo rate hike of 75 basis points (bps) on 27 October and the Federal Reserve (Fed) followed suit at its meeting in early November.
The US economy showed some signs of softening in October. A slowdown in both housing starts and home sales highlight how higher mortgage rates are weighing on the sector. The labor market remains the bright spot as highlighted by the September jobs report. The unemployment rate fell to a new record low of 3.5% with a stable participation rate of 62.3%, while average hourly earnings rose 0.3% month-over-month (m/m). In aggregate, data released in October kept up the pressure on the Fed.
Microsoft Corp, Google-owner Alphabet Inc. Amazon.com Inc., and Apple Inc have all suffered sharp drawdowns since there earnings results in October. Meta’s stock has been punished horribly for a disappointing revenue forecast, despite Mark Zuckerberg asking for patience given the social-media giant’s growing investments, particularly in the metaverse. The high-growth tech names are prone to fears of rising interest rates. Since many of them are valued based on their projected profits far into the future. As we move past the halfway point of this earnings season, with just under 54% of companies reporting, 71% of S&P 500 companies reported a positive earnings surprise, with 68% reporting a positive revenue surprise.
Corporate earnings in 3Q have met consensus expectations thus far, although the hurdle is low as economic headwinds continue to mount. A stronger US dollar has weighed on S&P 500 sales growth, while sticky wage growth has limited profit margins. Most US companies have seen their stock prices decline by at least -25% from recent highs. A swift recalibration of interest rates and valuations has led to an indiscriminate sell-off in equities despite still resilient fundamentals.
Local Equities rallied as the FTSE JSE All Share Index gained 4.6% in October and the FTSE JSE Capped SWIX gained 5.3% for the month. Financials were the top contributor adding 12.7% for the month and property gaining 9.4%. The biggest detractors were Naspers and Prosus as they both declined -16% during October. The Medium-Term Budget Policy Statement showed strong terms of trade for FY2022/2023 as a result of higher commodity prices, while signs of progress in addressing corruption also lifted sentiment. South African tax collections were 9% higher than the same period last year. South Africa’s annual inflation rate eased for the second consecutive month to 7.5% in September 2022. The South African Reserve Bank (SARB) remains concerned about increasing wage pressures. It looks as if the 7% wage increase at Eskom has become the benchmark for other pay settlements. Emerging markets such as South Africa have to respond to rate hikes in the US by making similar adjustments to their own rates, otherwise they face the risk of capital flight and a declining exchange rate. The Monetary Policy Committee (MPC) of the SARB is in the process of normalizing interest rates after the exceptionally low rates which prevailed during the pandemic. Members of the MPC indicate a normal repurchase rate is about 7%. South African miners lost c. R815m ($44 million) in export revenue per day during the Transnet workers’ strike. The institutional collapses of Eskom and Transnet are proving to be severe impediments to economic growth
All performance figures in ZAR unless otherwise stated.
View from Alpine Macro
Growth stocks have led the broad market into the bear phase. By the same token, they will likely lead other segments out of the bear market. With rate expectations still highly volatile, high-multiple stocks will continue to be depressed in the near term. However, if our view proves to be correct that inflation will fall quickly, growth stocks will likely outperform the benchmark in a sustainable recovery. Investors may still want to park their capital in the defensive sector in the short run, but they should also be aware that defensive stocks have massively outperformed the market, cyclicals, and growth stocks in particular. Any good news on inflation or clear signs of a cracking labor market in the U.S. could lead to a rapid shift in favor of growth.
The Iza Portfolios
The Iza Global Equity Fund declined by -0.93%, while the Iza Global Balanced Fund declined by -0.48% and the Stable Model Portfolio gained 0.73% (all GBP returns) for October.
Analysing our underlying fund managers, we find that the decline was largely due to the earnings results from Microsoft Corp, Google-owner Alphabet Inc. Amazon.com Inc., Apple Inc and Meta. Smithson Investment Trust was the fund’s biggest contributor gaining 7.00% for the month. Smithson completed the purchase of a position in IDEX, a diversified manufacturer of industrial, life sciences and safety products with a track record of supplementing organic growth with bolt-on acquisitions at attractive returns. Fundsmith Equity Fund purchased a stake in Otis to replace their stake in Kone and began a currently small holding in Apple.
Fundsmith’s top 5 contributors in the month were Visa, Stryker, Adobe, IDEXX and Novo Nordisk. The top 5 detractors were Meta Platforms, Estée Lauder, Microsoft, Amazon, and L’Oréal. October was a better month for global bond markets, with the UK as the notable outperformer. U.S treasuries underperformed other major markets. The Invesco Sterling Bond fund gained 5.23% for the month. Looking ahead to November we will see the remainder of the Q3 ’22 earnings season, as well as a slew of key economic data, including the Fed’s rate hike decision, CPI data release and Initial Jobless Claims. We expect that the markets will remain under pressure and volatility will remain high.