September 2022 Monthly Market Review

Negative investor sentiment extended throughout September with precious few places to shelter outside of cash and the U.S. dollar.  Despite investors’ ongoing search for signs of peak inflation, the August consumer price index (CPI) print (and corresponding inflation prints around the globe) were higher than expected.  This cemented a fourth consecutive 75 bps rate hike by the U.S. Federal Reserve.  Other central banks followed suit, with sharp increases across both developed and emerging markets.  In addition to hawkish central banks, geopolitical events played a significant role in stoking risk aversion.  Russia continued to escalate tensions associated with its war in Ukraine, while the newly installed U.K. government (led by Prime Minister Liz Truss) unveiled economic policies that were poorly received by the market.  As a result of these factors, both risk assets and safe assets declined during the month.

Along with the 75 bps rate hike, the Federal Open Markets Committee (FOMC) released its Summary of Economic Projections.  In this quarterly report, the Fed outlines its expectations for economic growth, unemployment, and inflation, as well as its prediction for the path of future rates.  In September, the Fed lowered its growth forecast and increased its inflation and unemployment predictions.  Further, it guided for even higher rates for this year and next.  In fact, the Fed is now above market forecasts for interest rates, a reversal from last month.  As mentioned, other central banks followed suit with significant rate hikes.

Equity markets bore the brunt of rising risk aversion in September, posting their second consecutive negative month.  The S&P 500 Index declined 9.2%, reaching new lows for the year-to-date period, while the broader Russell 3000 Index shed 9.3%.

The sell-off was broad-based.  Large caps marginally outpaced small caps, with the Russell 1000 Index registering a 9.3% loss versus 9.6% for the Russell 2000 Index.

Value stocks narrowly edged out growth stocks.  The Russell 3000 Value Index posted an 8.9% drawdown versus 9.7% for the Russell 3000 Growth Index.  Healthcare (-3.1%) provided some level of protection in the sell-off, buoyed by pharma and biotech stocks.  Financials (-8.0%) also held up relatively better, led by insurers that benefited from higher interest rates.  Longer-duration assets, such as communications services (-12.1%) and IT (-11.8%), came under pressure from the Fed’s hawkish tone.

While market attention appeared focused on the Fed, there was no shortage of international headlines.  Following a successful Ukrainian counteroffensive, Russian President Vladimir Putin announced the mobilization of 300,000 Russian reserve troops to aid in his war; he later annexed four Russia-occupied regions of Ukraine following sham referendums.  The latter move was widely condemned abroad, while the former sent some Russian residents fleeing to avoid being drafted into the war.  As the month closed, the U.K. roiled markets by announcing over £40 billion in debt-funded tax cuts.

In the days following the announcement, the pound hit its lowest level ever versus the USD and gilt yields surged.  The latter in turn brought U.K. pension schemes to the brink of collapse until the Bank of England stepped in to stabilize the situation via quantitative easing.  The tax plan was abandoned but its effects cannot be reversed so easily.  When the dust settled for the month, developed markets (-9.4%) performed roughly in line with the U.S.  There was little dispersion by way of style (value bested growth by roughly 70 bps) or region, with the U.K. (-8.8%), Japan (-10.4%), and Europe ex-U.K. (-8.7%) falling at similar levels.

Emerging markets (-11.7%) saw a more severe pullback in September.  While uncertainty in Eastern Europe continued to pressure markets, the key driver behind emerging markets declines was a broad sell-off across tech stocks against a backdrop of global inflation concerns and rising interest rates.  Taiwan (-15.8%) and Korea (-18.3%), both which are levered heavily to semiconductors and other tech industries, experienced sharp severe declines.  China (-14.6%) also faltered amidst ongoing lockdowns related to the country’s “Zero COVID” policy.

As previously mentioned, there were few places to find gains in this environment.  The USD appreciated against all developed markets currencies.  It also rallied against the vast majority of emerging markets currencies, excluding the Mexican peso and Ukrainian hryvnia, which saw modest gains.  In some instances, outperformance resulted from interest rate differentials between the U.S. and other countries; that said, USD strength arguably reflected a flight to safety.  Within fixed income, the only area of positive returns was three-month Treasury bills.  Longer-dated Treasuries and spread sectors fared poorly during the month.

U.S. Treasury yields rose across the curve, and the majority of sectors experienced spread widening.  The yield rise was clearly felt on the long end of the curve, with long-term corporates falling -8.7% and long-term U.S. Treasuries dropping -7.9%. The very front end of the yield curve, 1–3 month Treasury bills, returned 0.2% as some relative steepness remained there.  Yield curve shifts for the month were largely seen in the 2-year and 5-year parts of the curve, which each rose 76 bps as their 30-year counterparts rose 52 bps.

The Bloomberg Aggregate Bond Index retreated  4.3%, as all traditional broad market sectors performed negatively in September. The majority of credit spreads shifted wider, with investment-grade spreads rising 19–159 bps and high-yield credit widening 68–552 bps.

MBS widened 29–69 bps; however, ABS was one of the few sectors to experience tightening, coming in at 9–53 bps.

Despite the upside surprise in inflation, key real asset categories declined during the month.  Deepening concerns related to domestic and global economic growth, and the continued upward trajectory of interest rates, drove investor behavior.  Crude oil prices fell another 11.2% after declining 8.0% in August. Along with growth and interest rates concerns, further strength in the dollar (+3.0%)—which makes oil more expensive for foreign currency holders— drove the move lower.  Energy equities (-9.3%) declined despite still-elevated commodity prices and strong supply/demand dynamics.

Russia continued its weaponization of natural gas by halting all deliveries to Europe via the  Nord Stream 1 pipeline.  Despite this action and the aforementioned sabotage attack on the pipeline near month-end, natural gas prices in Europe and the U.S. fell 23.2% and 24.2%, respectively.  While the energy crisis remains front and center among concerns in Europe, the continent’s stockpiling of supplies and continued use of nuclear and coal power eased fears of a worst-case scenario; this resulted in an easing of exceptionally high prices.

Global REITs declined 12.3% as rate hikes continued, and amidst fears that demand for space, warehouses, and housing may decrease in a cooling economy.  In Europe and the U.K., where recession fears were most acute, property stocks declined 18.8% and 20.8%, respectively. Public market REIT declines occurred despite still-solid fundamentals across many sectors.  Historically, public real estate stocks have tended to trade with broader markets in the short term but in line with private real estate over longer periods.

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