Market Review – Thrid quarter 2021

Developed market equities were broadly flat over the quarter after a moderate decline in September erased the quarter’s prior gains. However, this still leaves developed market equities sitting on strong gains for the year to date. Chinese equities have struggled though and dragged emerging market equities down over the quarter, despite some markets, such as India, continuing to perform well.

Equities held up over the quarter despite some concerns about a peak in the rate of economic growth, supply disruptions and rising inflation. Ultimately, investors still believe that, despite a moderation in the pace of growth, recession risk remains low. Expectations for ongoing earnings growth in the coming years are therefore helping to support equity markets.

The negative news from China seemed relentless in the third quarter. First, China’s move to turn private tutoring companies into non-profit organisations worried some investors, who started to question whether similar actions could be applied to other sectors. Then, more regulations on the technology sector were announced, including a ban on children playing computer games for more than three hours per week. Finally, investors had to contend with fears around the potential default of Evergrande, a property developer and the potential spill over effects. All this has weighed on Chinese equities.

In the US, the FED announced that it will soon (probably in November) begin to slow the pace of its asset purchases, with purchases set to come to an end by around the middle of next year. The Fed also released its projections for interest rates over the next few years, with the central expectation now being for US interest rates to increase to 1.75% by the end of 2024. The pace of rate increases was faster than the market had been pricing in, resulting in a rise in Treasury yields in the days following the Fed’s September meeting, reversing the decline in yields from earlier in the quarter.

On the inflation side, the Fed’s new forecasts still imply an expectation that the currently elevated pace of inflation will fall back toward the central bank’s longer-term 2% target in 2022. Nevertheless, with above-target inflation appearing to be more persistent than many observers initially believed, members on the committee appeared to view a faster pace of tightening as warranted. Although longer-term inflation expectations currently appear to be consistent with the Fed’s 2% target, more persistent inflation likely raises the risk that inflation expectations accelerate higher, which in turn would warrant more aggressive tightening from the Fed.

The ECB announced a reduction in the pace of its asset purchases, but in contrast to the Fed, was keen to stress that this was not the beginning of a process of tapering purchases down to zero. As the Fed and BoE set out on a path towards higher interest rates, the ECB looks likely to be left behind.

Outlook

We made no change during the month, neither in the macro positioning, nor in the portfolio’s composition. Our equity style remains globally neutral with an overweight in small and mid-cap strategies. On the fixed income side, we are interest rate duration underweight, spread duration overweight. We are overweighted in emerging markets, both in equities and in bonds. We also have built exposure to uncorrelated fixed income strategies, such as absolute return, microfinance, and cat bonds. As the risk of a more persistent inflation increases, we may consider adding or increase inflation-protection strategies such as real estate, floating-rate notes, or inflation-linked bonds.

The MSCI ACWI (USD) was down -4.0% during the month while the Barclays Global Aggregate index (USD hedged) was down -0.9%.

Active management had a positive contribution. Over the 27 funds we have in the portfolios, 17 were outperforming their respective benchmark.

In absolute terms, the Balanced portfolio (-1.9%) outperformed the Yield & Income portfolio (-1.9%) and the Growth Portfolio (-2.5%).

Yield & Income Portfolio (USD)

The portfolio outperformed its benchmark by +7bps in September. The main drivers of relative performance were the underweight exposure to interest rates. Strategies such as Loans, ABS and microfinance had absolute positive performance during the month. On the other hand, our overweight in EM, both in debt and in Equities were lagging factors. Finally active management contributed by +14bps.

Balanced Portfolio (USD)

The portfolio outperformed its benchmark by +61bps. Absolute return funds partially absorbed some of the losses. Long/short strategies were globally flat during the month as well as our merger arbitrage fund. The overweight in EM had a negative impact on performance and active management contributed by +28bps.

Growth Portfolio (USD)

The Growth portfolio outperformed its benchmark (-2.48% vs. -3.06%). Active management (+35bps) and our prudent sensitivity to interest rates were the main factors of relative performance.