It's Not Over Till Powell Says So
“We still have some ways to go.”
That marks your Christmas greeting from the Fed chair Jerome Powell. The US Federal Reserve’s latest projection off the final FOMC meeting of the year on 14 Dec showed that policymakers expect to raise their rate range by another 75 basis points (bps) next year. This was more aggressive than expected, with some market commentators expecting rates to rise in 2023 by just 50 bps.
At the same FOMC meeting, the central bank made a last rate hike in 2022 — this time at 50 bps — a smaller increase than the 75 bps jumbo hikes seen at the previous four straight meetings. This is widely expected, with markets more focused on the Fed’s comments that would guide the interest rate path.
All in, the Fed has made seven rate hikes this year, bringing the benchmark fed funds rate to a range of between 4.25% and 4.5% — a 15-year high.
There have been hopes that the Fed could ease off the pedal on rate hikes as US inflation may have peaked. November’s core Consumer Price Index (CPI) — which strips out energy and food prices due to their volatility – made its smallest advance in 15 months. The overall CPI also registered its slowest annual increase in nearly a year. Rates hikes are meant to bring down inflation by making the cost of capital — or credit — more expensive. Mortgages, a big household expense, have surged.
That said, with a gain of 7.1% in November from a year ago, US inflation may be down from the 7.7% surge in October, but is still assuredly above the 2.1% average rate in the three years before Covid-19 struck.
Consumers and businesses are in for higher prices overall, even if inflation has peaked.
Fed: "We will stay the course"
At the press conference after the 14 Dec FOMC meeting, Powell rejected considering rate cuts until “the committee is confident that inflation is moving down to 2% in a sustained way”, with borrowing costs set to rise further — and more than what investors had expected prior to the meeting. “It is our judgement today that we are not at a sufficiently restrictive policy stance yet. We will stay the course until the job is done,” the Fed chair said.
There are questions of whether the Fed is to be believed, opening a broader question about the credibility of the world’s most influential central bank. Bonds rallied as investors think the Fed — with its focus on engineering a soft landing — may have to cut rates next year. This means they think inflation is going to be more manageable than what the Fed is currently signalling.
Policymakers will be looking at the composition of inflation, to understand how far rate hikes from here on can engineer a slowdown by cooling consumer demand. On the supply front, there will be assessments on how much of the remaining inflationary pressures come from higher commodity prices due to the Russia-Ukraine war, even as supply-chain disruptions brought on by the pandemic are much less of a concern today.
On the demand front, the labour market remains tight, with wage growth still sticky and on the up. This is an important indicator to watch. For there to be cooling demand, the rate increases must trigger businesses to reach a point of firing staff or holding back on wage increases. When wages are cut, consumers spend less.
Layoffs were notably significant in the technology sector in the second half of 2022, as Big Tech firms posted underwhelming earnings that missed lofty projections. Meanwhile, a week before Christmas, news broke that Goldman Sachs is set to lay off some 4,000 employees.
As it is, overall demand for workers for now continues to outstrip the number of unemployed who are seeking jobs. At its 3.7% level in November, US unemployment remains low. Powell has said that as wages make up the largest cost in delivering services, the labour market holds the key to understanding inflation in this category.
The Fed has trimmed its 2023 growth forecast to 0.5% and now expects the unemployment rate next year to rise to 4.6%.
The latest comments from the final FOMC meeting caps a rollercoaster year for the markets. It’s safe to say that markets will continue to take cues from the Fed in 2023, while taking bets on whether the central bank will go from playing catch-up in undershooting on inflation in 2022, to overreaching with rate hikes in 2023.
For a wrap-up of the year’s biggest market events, follow this link. For more on how Endowus manages your portfolio in times of volatility, here’s an explainer.
Read about how our Satellite solutions have performed in 2022 and the outlook ahead for the technology sector, property stocks, and China equities.
Equity, fixed income markets rebound in November
Most major equity markets rallied in November 2022, led by China, which returned 29.7% — going by the MSCI China Index. Brazil was one of the few bucking the trend as it posted slight negative returns during the month. The slight change in stance from the Fed and the indication of easing US-China tensions boosted market confidence and sentiment. News that China was preparing to loosen its zero-covid policy also helped boost its equity market after a year of languishing performance.
Meanwhile, global fixed income markets enjoyed a robust recovery in November as government bond yields declined and credit spreads tightened. Higher-risk markets such as emerging-market debt rallied even harder, with the JPM EMBI Global Diversified Index returning 7.6% for the month.
Key performance highlights for the Endowus Portfolios in November
- The Flagship Portfolios outperformed their benchmarks for the month, with both the equity and fixed-income segments outpacing the broad equity and fixed-income indices.
- The ESG portfolios outperformed their benchmarks in November. The ESG equity portfolio outperformed in part because of its allocation to the Mirova Global Sustainable Equity Fund. The ESG fixed income portfolio’s outperformance came largely from the higher credit exposure of the portfolio.
- The three Income Portfolios outpaced their respective benchmarks in November. Performance was boosted by allocations to Asian credit and emerging-market equity.
- All three Cash Smart solutions posted positive absolute returns in November as cash and shorter-duration fixed income funds enjoyed the rally, alongside their riskier longer duration counterparts. As with the Income Portfolios, projected yields for the Cash Smart solutions have continued to increase with the rise in interest rates.
Endowus Flagship Portfolio
The Flagship 100% Equity Portfolio outperformed the global equity market in November
- Equity markets — represented by the MSCI All Country World Index (ACWI) — extended their recovery into November with a 4.3% return. A more dovish stance from the US Federal Reserve helped soothe markets, amid signs of slowing inflation growth in the US. Along with a weaker US dollar, the benign market environment helped emerging-market equities rally strongly in November and outperform their developed-market peers. Positive developments from China such as an easing of Covid-19 restrictions and a meeting between US President Joe Biden and Chinese President Xi Jinping further boosted market sentiment.
- The Flagship 100% Equity Portfolio benefited from its overweight to emerging markets and Asian small-cap companies, as both segments had a strong month due to the risk-on sentiment, especially in Asia.
The Flagship 100% Fixed Income Portfolio outperformed the global fixed income market
- The global fixed income markets also enjoyed a strong rally in November, as the same macroeconomic developments were a positive for fixed income. Yields declined broadly along with a narrowing of credit spreads. Emerging-market bonds did especially well, aided by a strengthening in most emerging-market currencies.
- The Flagship 100% Fixed Income Portfolio outperformed the Bloomberg Global Aggregate Index, as all of the portfolio’s underlying funds participated meaningfully in the month’s rally. The PIMCO GIS Emerging Markets Bond Fund was a standout performer with a 7.3% return, and was the main contributor to the portfolio’s outperformance.
Endowus ESG Portfolio
The ESG 100% Equity Portfolio delivered another month of strong performance, outpacing the global equity market
- All three underlying funds in the portfolio delivered positive performance, resulting in the portfolio outperforming both the broad MSCI All Country World Index and the MSCI ACWI Growth Index.
- The Mirova Global Sustainable Equity Fund rebounded the strongest, returning 8.7% in November.
- It is worthwhile to note that while the ESG 100% Equity Portfolio experienced several headwinds before October — such as the lack of energy exposure and being overweight on growth stocks — the underlying fund managers were able to actively position the portfolio and hold on to their longer-term fundamental conviction. The recent outperformance is a testament to their ability to capture the market upturn.
The ESG 100% Fixed Income Portfolio outperformed the benchmark in November
- All three underlying funds in the portfolio delivered positive returns and outperformed the Bloomberg Global Aggregate Index.
- Both the UOBAM United Sustainable Credit Income Fund and the PIMCO GIS Climate Bond Fund delivered superb performance, returning 3.9% in November. This was due to their higher exposure to credit, which tends to do well in a risk-on environment.
- The JP Morgan Global Bond Opportunities Sustainable Fund continued its steady performance in November. Being a flexible, multi-sector bond fund that is tilted to sustainability, it has been able to navigate this year’s challenging environment well, generating consistent performance.
Endowus Income Portfolios
The Stable Income Portfolio rebounded strongly in November
- All four of the underlying funds in the Stable Income Portfolio posted strong returns in November.
- Allocation to the Asian fixed income market through the Fidelity Asian Bond fund contributed to outperformance against the broader market, thanks in part to optimism over China’s reopening.
- Fund allocation to US fixed income also contributed positively, with both the PIMCO GIS Income Fund and the AllianceBernstein American Income Fund outperforming the broad US fixed income market.
The Higher Income Portfolio delivered strong performance in November
- With the positive sentiment in both the fixed income and equity markets, all the underlying funds generated positive returns and outperformed their respective benchmarks.
- Similar to Stable Income, both the Higher Income Portfolio’s allocation to and fund selection in the Asian fixed income market contributed to relative performance. The Threadneedle US High Yield Fund was a notable contributor to the outperformance.
- In contrast to October, the allocation to emerging-market equities proved to be a boon for the portfolio as they rebounded strongly in November, outperforming developed-market equities.
The Future Income Portfolio posted positive returns in November
- Within the fixed income sleeve, the Future Income Portfolio benefited from its allocation to and fund selection in the Asian fixed income space, as well as its allocation to and fund selection in the US fixed income and US high-yield markets.
- The allocation to emerging market and Asian equities, in the equity sleeve, through the Schroder Global Emerging Markets Opportunities Fund and FSSA Dividend Advantage Fund, significantly contributed to performance – they returned 10.7% and 15.4% respectively for the month.
- The portfolio’s fund selection in the developed-market equities space also helped, with the Abrdn Global Dynamic Dividend Fund outperforming the broad developed equities market index by 3%.
All three Income Portfolios are achieving their payout targets
- All three portfolios have been achieving their payout targets consistently despite posting negative returns. Negative price returns are the result of a mark-to-market valuation for fixed income securities and do not impact the actual coupon payments or dividend payout from the underlying funds. To add, some of the funds in our portfolios have started to increase their target dividend yield. For example, the Neuberger Berman Short Duration Emerging Market Debt Fund had increased the target dividend yield from 4.5% to 6% in October.
- As the first chart below shows, the actual payout from each Endowus Income Portfolio — assuming an initial investment of S$100,000 — has been relatively stable, in particular for Stable Income.
- As the second chart shows, the annualised payout yields for the portfolios have been rising as a function of relatively stable monthly payouts and lower net asset values (NAVs). This suggests higher forward-looking income if investors enter the market at this price point.
Endowus Cash Smart Portfolios
Cash Smart Secure continues to generate high, stable returns amid a strong rates environment
- The rising rate environment continued to provide attractive re-investment opportunities for the two underlying funds with ultra-short durations in the Cash Smart Secure portfolio.
- The Fullerton SGD Cash Fund, in particular, saw the largest month-on-month jump on its yield (+0.66%) and posted yield as high as 4.2% as of the end of November on a rolling five-day basis.
Cash Smart Enhanced posted positive gains in November
- Boosted by the fixed income market rebound, the Cash Smart Enhanced solution delivered its first positive return since July 2022
- There were modest positive gains from the Lion Global SGD Enhanced Liquidity Fund and the UOBAM United SGD Fund, as the broader Asian credit market rallied alongside the broader fixed income market.
Cash Smart Ultra saw its highest monthly return since inception in November
- The portfolio in November 2022 returned 1.0% — the highest month-on-month return since its launch in April 2021. The biggest contribution came from the Nikko AM Shenton Income Fund, which saw a return of 1.88% in November. All the other underlying funds in the Cash Smart Ultra portfolio were also positive in the month.
Cash Smart projected yields have been on an upward trend with rising interest rates
- The fall in bond prices has a negative mark-to-market impact, but this translates into a higher yield-to-maturity of the bonds that are in the portfolios.
- The rising rate environment provides an opportunity for the underlying funds to reinvest and allocate the coupon payments and cash from maturing bonds to higher-yielding bonds. The managers of the underlying funds will continue to take advantage of this environment as they reposition their funds for the next few months.
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