March 2022 Monthly Market Review

March marked one full month since Russia invaded Ukraine.  The war continued to cause international outrage as Russia left carnage and a significant humanitarian crisis in its wake.  We remain hopeful a peaceful resolution will be reached soon.

Although sanctions have expanded and Russian citizens are feeling pain, markets remain wary that Putin could wage an economic war against Western governments.  According to BlackRock, not only is Russia a key energy exporter to Europe, but Russia and Ukraine combine to account for 34% of global wheat production and 17% of global corn exports, while Russia and Belarus are key suppliers of fertilizer components potash and nitrogen.

Inflation continued to be a significant concern for global central banks, which started to withdraw stimulus to fight inflation.  The Fed meaningfully changed its trajectory for rate hikes and started to prepare markets for a rolldown of its balance sheet.  In this environment, real asset categories and global equities performed well.  With a more aggressive Fed, bond markets struggled as yields rose and—as if investors did not have enough to worry about—the yield curve is signaling a recession.

February inflation data released in March continued to show elevated price pressures.  The CPI rose 7.9% on a year-over-year basis in February and core prices (the CPI minus the impact of food and energy) gained 6.4%.

The real personal spending rate has been flat or negative in three of the past five months. This is potentially an indication that the consumer (accounting for roughly two-thirds of GDP growth) may be having difficulty absorbing higher prices.  The natural question is whether this manifests into a change in investor inflation expectations, i.e., becoming “unanchored.”  Expectations became unanchored in the 1970s, which led to a wage price spiral.  An effective indicator to gauge expectations is the “5×5” breakeven inflation rate, which essentially is the forward rate derived from the 5-year and 10-year breakeven inflation levels in the U.S. TIPS market.

Amidst a backdrop of increasing commodity prices and elevated inflation, real asset categories outperformed broad equity markets.  Commodity markets, which were undersupplied prior to Russia’s late February invasion of Ukraine, moved higher as the war and related sanctions continued to cause supply disruptions across key natural resources.  Gains were widespread across commodity complexes, with prices of energy commodities (+16.1%), industrial metals (+12.1%), precious metals (+2.8%), agricultural products (+4.1%) and livestock (+1.2%) all rising during the month.  Oil prices remained volatile, spiking to $140 per barrel following the U.S. ban on Russian fossil fuel imports.  Crude prices retreated to close the month at $105 per barrel, netting a 6.9% gain for the period, as the U.S. announced an unprecedented 80 million barrel release from its strategic petroleum reserve.  Natural resource equities (+9.3%), which includes energy and metals & mining, outperformed on commodity gains, expectations of continued undersupply, strong profit outlooks for the sector, and investor demand for inflation protection.

After selling off in January and February, U.S. property stocks (+6.4%) and global infrastructure stocks (+5.9%) rebounded for several reasons:  (i) fundamentals continued to improve in many property types, (ii) U.S. economic data remained resilient, and (iii) the Fed’s interest rate hike plans appeared to be in line with expectations.  Since inflation concerns began to emerge one year ago, many investors have sought the potential inflation protection offered by real estate and infrastructure.  Both sectors have the ability to pass along higher costs via rent adjustments and may benefit from higher replacement costs along with increasingly restrictive zoning.

In addition to gains in real assets, the domestic equity market rebounded after posting drawdowns in the first two months of the year.  The S&P 500 gained 3.7%, while the broader Russell 3000 Index generated a 3.2% return.  March was a tale of two halves;  the S&P 500 sold off 4.5% through March 14th before rallying 8.6% for the remainder of the month.  The mid-month shift reflected waning concerns about the tail risk scenarios related to both the war in Ukraine and the Fed’s ability to engineer a soft landing.

Ten of the 11 GICS sectors posted gains in March.  With inflation being top of mind for investors, sectors with exposure to natural resources and real assets performed better.  Energy (+9.9%) led within the Russell 3000 for the third consecutive month, followed closely by utilities (+9.8%).  Real estate (+6.4%) and materials (+5.3%) also posted strong gains.  Financials (‒0.5%) was the only sector to finish in negative territory as the yield curve flattened.  Banks such as Citigroup (‒9.8%), Wells Fargo (‒9.2%), and Bank of America (‒6.3%) posted drawdowns.

The shortfall from financials dragged gains in value stocks behind their growth counterparts.  The Russell 3000 Value Index gained 2.8% versus 3.7% for the Russell 3000 Growth Index, ending a three-month streak of outperformance for the value index.  Across growth-oriented exposure, index performance largely benefited from gains posted by mega caps such as Apple (+5.7%), Amazon (+6.1%), Tesla (+23.8%), and NVIDIA (+11.9%).  In a reversal from February, returns in small caps also lagged large caps; the Russell 2000 Index gained 1.2% vs. 3.4% for the Russell 1000 Index. There was also a resurgence of the meme stock rally that hurt many hedge funds in early 2021.  A Goldman Sachs basket of retail favorite stocks such as AMC and GameStop surged roughly 30% over the last two weeks of the month.

Seemingly overshadowed by events in Russia, Chinese equity markets endured a period of heightened volatility in March as fears of potential delisting of Chinese companies trading on U.S. exchanges resurfaced.  This coincided with a resurgence of COVID-19 cases on the mainland, prompting another series of lockdowns under China’s zero tolerance policy.

A sharp sell-off ensued, with the MSCI China Index down as much as 25% for the month at one point, driven by China’s tech and ecommerce names.  Beijing responded with a number of measures intended to boost investor confidence, including a pledge to increase support for financial and real estate markets, a signal to end regulation of the tech sector, and efforts to resolve the issue of potential delisting.  Chinese markets responded in kind and the MSCI China Index gained back some ground to finish down 8.0% for the month.

In contrast to the positive performance in real assets and equities, fixed income sectors had a difficult month with negative returns in long Treasuries (‒5.3%), investment-grade corporates (‒2.5%), securitized assets (‒2.6%), and high yield bonds (‒1.1%).  Leveraged loans delivered a slightly positive return of a few basis points.  The FOMC hiked rates by

25 bps in the middle of March and guided for a sharper, faster tightening cycle of seven hikes compared to three called for in its December projections.  For 2023, the Fed expects to hike four times, one more than its December guidance, raising the federal funds rate to 2.8%—a level the Fed expects to maintain in 2024.  Additionally, the Fed is expected to begin reducing its balance sheet in the near future.

There is growing concern that the Fed may be forced to make consecutive 50 bps hikes at the next several meetings in order to tame inflation.  As a result of a sharp drain in policy accommodation and liquidity, some investors are worried the U.S. may experience stagflation or—if the Fed is successful at reducing inflation—a recession.  The yield curve reflected these fears with inversions (higher short-term yields compared to long-term yields) between the 5- and 30-year Treasury yields and higher yields on 3-, 5-, and 7-year Treasuries versus 10-year Treasuries.  During the last week of March, the spread between 2-year and 10-year Treasuries (the  “2s10s”) briefly inverted before ending the month flat.  The 2s10s spread inverted fully during the first week of April.  In the past, an inversion between these two maturities has often preceded the onset of a recession by 12–18 months.

Indices referenced are unmanaged and cannot be invested in directly.  Index returns do not reflect any investment management fees or transaction expenses. This report is intended for informational purposes only; it does not constitute an offer, nor does it invite anyone to make an offer to buy or sell securities.  Information herein has been obtained from third-party sources that are believed to be reliable; however, the accuracy of the data is not guaranteed and may not have been independently verified. The content of this report is current as of the date indicated and is subject to change without notice.  It does not take into account the specific investment objectives, financial situations, or needs of individual or institutional investors.   All commentary contained within is the opinion of Prime Buchholz and intended solely for our clients. Unless otherwise noted, FactSet was the source for data used in this report. Some statements in this report that are not historical facts are forward-looking statements based on current expectations of future events and are subject to risks and uncertainties that could cause actual results to differ materially from those expressed or implied by such statements. Past performance is not an indication of future results.