Quarterly Investment Newsletter: Winter 2022

Stock markets posted strong returns during the final quarter of 2021 despite the emergence of the highly transmissible variant Omicron. Global equities
returned over +7% in both local terms and when converted back into Sterling (as the Pound remained remarkably steady in foreign exchange markets) with the United States once again the driver of returns posting near +10% for the period. Europe and the UK trailed the US but still returned around +7% and +5% respectively, but emerging markets continued to struggle in the face of extended Covid pressures and fell marginally during the quarter. UK government bonds sold off during December when the Bank of England decided to raise interest rates, but still
provided a +2.3% return during the quarter, although this was not sufficient to prevent gilts losing value over the whole of 2021. Gold rallied a little as markets came to terms with the possibility of longer bouts of higher inflation.

In no surprise to anyone, Covid-19 remained at the epicentre of all matters economic, and the emergence of the highly transmissible Omicron variant forced governments and public health officials to reassess the speed at which normal daily life can resume. In highly vaccinated countries such as in western Europe and the US data suggests a much lower level of disease despite enormous spikes in infections, leading to pressures on healthcare systems (and other businesses and public services) being mainly associated with the need for staff to isolate when infected. Hence talk turns to how countries might move towards ‘living with the virus’, with politicians once more in the spotlight as they are forced to decide how to balance health, economic, and social considerations.

The most significant economic by-product of the pandemic is inflation. Lockdowns led to both demand surges for manufactured products and disruption to supply chains, a simple recipe for higher costs in many markets. Though supply side pressures will ease at some point, we should not forget that many lower wage economies where manufacturing takes place remain largely unvaccinated and susceptible to Covid. Talk of ‘transitory’ inflation has gradually disappeared, with fears now turning to the possibility that supply side inflation begets wage inflation as labour markets start to recognise the rising costs of living. Central Bank rhetoric has certainly changed in recent months and now strikes a much more hawkish tone.

The continued buoyancy of equity markets is therefore challenged. Equity prices are still underpinned by the relative unattractiveness of cash and bonds, but with inflation becoming a feature of developed markets and monetary tightening occurring more quickly than expected the question is whether equities can hold their values in the absence of continued quantitative easing and the presence of rising interest rates. It is worth remembering that not all stocks are equal and dispersion of valuations within stock markets is extreme. This fact combined with the possibility of economies reopening more during the year means that active fund managers have an opportunity to outperform the index.

At our January meeting the Investment Committee voted to maintain our neutral position in equities. We continue to hold a balance between value and growth stocks, and favour the UK on a valuation basis. Whilst not our central thesis, we acknowledge the possibility of interest rates rising more quickly than markets currently price in and have therefore reduced the interest rate sensitivity within our bond holdings.

I hope you find this newsletter interesting and relevant to you, and I would very much welcome any feedback you may have. Please do feel free to get in touch with your thoughts either by phone on: 020 7063 4259, or by email on: david.baker@mazars.co.uk.