Quarterly Market Update – Q3 2022

September Quarter 2022

Market and Asset Class Views

Australian Equities:

Over the June quarter, the ASX200 finally succumbed to the reality of increasing inflation and subsequent need for markedly higher interest rates. The index traded to a low of – 14.2%, during the quarter, before closing down 12.22% for the period and closed out at -6.78% for the 2021/22 financial year. Paradoxically, Intra-quarter the index had traded to within 0.5% of its record high of August 2021.

The “behind the curve” RBA finally acknowledged that inflation was an issue and responded in quick succession, by lifting interest rates by 0.50% to 0.85% in their June meeting. This was first consecutive hike since 2010 and the biggest increase since February 2000, albeit prevailing rates then were 5.5%. Governor Lowe conceded that further increases were likely as he flagged that CPI could peak at 7%. Economists and the market expect multiple hikes to come, with expectations of circa 2.5% by year end.

With all the major banks passing on the full rate hike to their mortgages, domestic facing risk assets suffered as investor fretted that this would lead to a slowdown in mortgage lending and increase in bad debts as the economy slows. A number of strategists have cut their GDP estimates for CY22 to sub 3% versus previous 3.5% and to circa 1.8% for CY23.

The upcoming June half-year reporting season is expected to see solid earnings growth for the year of approximately 24%, however the subsequent outlook for FY23 is anaemic at around 2% EPS growth. The market decline has seen valuations retreat to a forward PE ratio of around 14x. We remain alert to the forward guidance from company management during the results period for clarity on forward earnings.

The risk-off environment has driven the AUD lower with a corresponding lift in in the USD hitting 20-year highs. With the RBA removing the bond yield control curve and lifting rates contrary to their previous 2024-time horizon has seen a loss in trust by international investors in the AUD bond market, resulting in lower AUD demand or a higher premium. We expect a solid terms of trade, combined with rising local rates would see AUD drift higher over the following quarter to the low 70’s.

We move to a Neutral weight for the September quarter.

US Equities:

A turbulent quarter saw the S&P 500 trade into bear market territory, falling at worst -23.5% from its record high in early January. The likelihood of sustained interest rate hikes over the balance of this year dented investor enthusiasm for risk assets. For the quarter the index fell 8.38% and -16% for the June half, the worst first half of the year since 1970. The Nasdaq Composite ended H1 down 30%, the largest drawdown since 2002, in the aftermath of the dot.com collapse.

The Federal Reserve lifted interest rates again in their June meeting by 0.75% to range 1.50-1.75%, acknowledging they will need to be more aggressive to tame soaring inflation. The hike was the biggest since 1994 and their “dot-plot” forecast for rates is now 3.4% by year end versus 1.9% forecast in March. They revised up their expectation for inflation to 5.2% in CY22, as the latest May actual CPI data printed at +8.6%, the highest level since December 1981. The Fed is however, still chasing the market.

The response in equity markets was brutal, as investor concerns of economic slowdown and reduced earnings hit sentiment. We wrote in our May CiN-sights of the likelihood of “More Shocks” for risk assets; we now have the inflation plus the interest rate shock, the challenge for central banks is to avoid the “recession shock”.

The Q2 reporting season is underway with consensus EPS growth estimate of 4.3% YoY, which has been revised down from 6% at the end of March. Whilst the one year forward PE ratio has dropped to circa 15.8x, which is below both the 5 and 10-year average, focus remains the commentary from management on trading conditions and the economic outlook. 

We retain our Neutral weighting.

EU Equities:

The Stoxx600 fell 8.13% during the June quarter, as ongoing supply chain issues and the energy crisis courtesy of the war in Ukraine hit sentiment. Inflation across the region contained to spike, with the EU zone release at record highs and the UK at the highest since 1982.

The ever-dovish ECB has finally conceded inflation is a problem, announcing it will lift interest rates by at least 0.25% in its July meeting. This coincided with a lift in their forecast for CY22 CPI to 6.8% from 5.1% in March. The latest May CPI hit 8.1% YoY, a record high for the region and a fourfold increase over the last 12 months. They have also slashed their growth forecast for CY22 to 2.8%, down from previous 3.7%, as 1Q22 growth was a slight beat at +0.6% quarter on quarter. As much as the Fed is behind the curve, the ECB is behind even further.

Conversely in the UK, economic growth stalled as the latest April GDP data reported a fall of -0.3% MoM for the second successive month of contraction. Coupled with a continuing spike in inflation to 9.1% the highest level in 40 years, the more pragmatic central bank (the BoE) has responded with a fifth consecutive hike in interest rates to 1.25%. This cost-of-living surge has also seen the UK Government introduce a further £15bil support package for households which will be partially funded by a 25% windfall tax on energy companies. The latter is expected to raise £5bil over the next year.

Earnings growth for the Stoxx600 are expected to slow significantly in 2Q22 to circa 6% YoY versus +35% in Q1. The retreat in the index has seen the forward valuation for the market fall to a PE of 12x, its lowest level in a year. However, the outlook remains challenged as the impact of the energy crisis continues with the sanctions on Russian energy imports pushing fuel prices to record peaks. These ongoing cost pressures across the region have led to an increase in industrial disputes, as workers across a number of industries take strike action as wage growth fails to keep up with the elevated inflation readings.

We retain our Neutral weighting.

EM Equities:

The MSCI EM index lost 3.30% over the last three months, better than their developed market counterpart. 

Helped by more stimulatory measures, investor sentiment in China has been improving which coincides with the ease of Covid19 restrictions. There are also signs that authorities would ease up on regulating internet platform companies and tech giants. China has intensified efforts to stimulate growth, with measures including tax cuts, loosening of vehicle sales quotas and an acceleration of infrastructure spending. However, the zero-covid policy still remains, underlining that the economic activity continues to face the risk of future lockdowns. Moreover, the property market slump is dampening local government finances. Thus, constraints at the local government level will keep the recovery modest. We therefore maintain a neutral view to Chinese equities.

Taiwan Manufacturing PMI fell in May and output shrank for the second straight month, due to material shortages and softer demand amid Covid restriction in China. Similarly, South Korea PMI also declined. As major semiconductor manufacturers, there are near-term risks for both regions. However, the long-term drivers remain strong amid a shift towards semiconductor intensive areas of electric vehicles and artificial intelligence.

Indian and Indonesian equities were the region’s worst performers after strong gains from previous quarter. Some EM regions like Latin America held up well during the quarter thanks to outlook for commodities.

To combat continued inflation, many EM countries have continued their rate hiking cycle. The Reserve Bank of India raised its key repo rate by 50 bps to 4.9% during its June meeting, after May’s surprise off-cycle hike. The Central Bank of Brazil increased the Selic rate by 50bps to 13.25% in June, bringing borrowing costs to the highest since 2016. It was the 11th consecutive interest rate hike since it started tightening.

A stronger US dollar, as a result of the Fed rising cycle and geopolitical tensions, will hurt Emerging markets in two ways. Firstly, capital inflows will reverse as international monies return to the safer confines of the US. Secondly, higher US interest rates will make it more expensive for EM borrowers to obtain financing and pay down their existing debts. Counterbalancing attractive valuations in emerging markets, EM countries are vulnerable to tighter US financial conditions and falls in commodity prices.

We maintain a Neutral weight on EM equities.


The performance of A-REITs has continued to trend lower over the June quarter, down 17.68% and underperforming the broader market. So far in 2022, A-REITs as measured by the S&P ASX200 A-REITs index posted a loss of 23.53% in comparison to the broader ASX200 which is down 9.93% CYTD.

Latest market data points to a weakening of key economic fundamentals. Business and consumer confidence declined in May. NAB forecasts negative retail trade growth given a combination of cost-of-living pressures and expectant interest rate hikes.

In the short to medium term, we see interest rate risks persisting for A-REITs leading to increasing cost of debt, cap rate expansion and downward asset revaluation pressure.

The property sector has experienced significant repricing during the recent valuation pull-back. With further rate hikes in sight, in line with other risk assets, we retain our Neutral call on the listed property sector.


Private Equity

Private Equity is an Equity market and it is subject to the same economic forces as its listed counterpart. Private equity normally has a valuation lag to listed markets due to its less frequent pricing cycle. So, if we regard listed market valuation trends as a key determinant in unlisted asset future performance, the resetting of PEs, growth expectations etc. will flow through to private markets. We therefore down-weight the allocation to Private Equity to Neutral for the interim.


The Russian/ Ukraine conversation has now been over-taken by inflation to become the top market risk to gold. This has led to some downward pressure on Gold. While historically gold has not been the best inflation hedge compared to other assets such as infrastructure, it does provide insurance against major equity downturns and currency debasements. We are mindful that gold is close to its highest real price in 800 years. However, we are comfortable to continue hold gold in portfolios. But at a Neutral setting.

Hedge Funds

Our house view is that hedge funds are to add value during times of volatility has proven correct with the Dow Jones Credit Suisse Hedge Fund Index posting a positive quarterly return in this challenging environment. We specifically note that each hedge fund by nature is different, therefore fund manager selection and ongoing monitoring is crucial. Overall, we continue to hold our mild positive stance for the upcoming quarter, with the view that hedge funds offer low-correlated returns and provide a diversification effect, enhancing portfolio’s risk-adjusted returns.


Infrastructure is currently our preferred asset providing inflation protection in a portfolio. Unlike commodities and real estate, which also provide inflation hedge to varying degrees, and at different times, infrastructure assets are more nuanced in that they are often essential services with regulated inflation protection characteristics. We lean to the defensive characteristics of infrastructure in the current market conditions.

We re-enforce our call that inflation linked infrastructure is a positive 2 call, for the following quarter.

Fixed Income:

Government Bond

Back in May, US President Joe Biden announced his top domestic focus was inflation and market data suggested the pace of inflation was starting to slow. However, the latest numbers released in June have indicated inflation is running hotter than before. The Federal Reserve responded with a 75-basis point rate hike, the largest single-meeting hike increase since 1994. US Fed Chairman Powell opined that “inflation is far too high” and there seemed to be agreement among the committee that similar sized rate increases “should be on the table for the next couple of meetings”. Market expects that rates will reach 3.25%-3.5% by the end of 2022.

US Inflation Expectations Spike Higher

Source: BCA Research

The countervailing view in the FI market has been that the aggressive rate setting regime will cause a hard landing and the FED will be actually cutting rates by late 2023. The bond market has started pricing this in and we have seen rates 2 year plus out correcting for this view.

With a similar view, over the last two quarters we have been gradually reducing our negative view on government bonds. Whilst we have seen a major bond market sell-off, we had started to “lean-in” by adding more duration-based FI back into the portfolio. The selloff has been bigger that our last Quarter’s view but recent market action has seen a reasonable recovery.

Government bonds are now offering attractive yields, currently paying 3.00- 3.25% up from 1.52% 12 months ago. We retain slight Underweight view on Government bonds.

10 Year Government Bond Yield

Source: S&P Capital IQ


Within the credit market we are starting to observe a strong divergence in credits in terms of quality and risk. Overall credit is becoming more challenging than 12 months ago. While some segments still offer superior returns, there are increased risks inherent in certain areas that warrant deeper analysis and monitoring.

Key concerns lie around the flow through effect from the increased inflationary pressures and rising interest rates, especially credits reliant on the consumers back pocket. Weaker demand in the broader economy which will hit businesses (and borrowers) in the months to come.

Globally, Business profits have remained relatively resilient, and credit defaults have stayed near all time-lows. However, with higher input costs due to supply and labour shortages, higher financing cost from rising interest rates, corporate health is likely to begin to deteriorate. We therefore continue to hold Neutral allocation to Credit.

Robust risk management and asset selection is required in credit investing. We are steering away from property, specifically construction related property. Our preference is towards asset backed structures with low loan to value ratios, credit protection and enhancements and to those secured with real assets.

For further information and guidance, please contact us here.

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