Q4 2022 In Review
2022 was a challenging year or numerous aspects. The war in Ukraine, energy crises, and central banks’ battle against inflation have been the main sources of bond and equity markets’ struggles in Europe and North America, while Covid-19 continued to be a topic in Asia.
Value stocks have significantly outperformed growth stocks, both this year and over the last quarter. This could largely be explained by high starting valuations for growth stocks, paired with some growth disappointments, and the effect of rising interest rates. At the start of 2022, the valuation of growth stocks had reached frothy levels, with major growth Indexes trading at 31 times expected earnings, compared with only 14 times expected earnings for value peers. By the end of the year, the valuations had fallen to 21 and 12 times respectively. This still leaves growth stocks looking somewhat expensive by historic standards, whereas value stocks look fairly cheap.
Arguably the more painful move in markets has been the sharp decline in bond prices. The general consensus when stocks are going through rough patches, is that bonds would be the safer tool to protect capital, limit losses and maintain volatility under check. However, this year’s unprecedented conditions left many with no port in the storm as bonds suffered too. The cause was central banks having to raise interest rates by far more than market participants had expected at the beginning of the year.
Over in Asia, Hong Kong witnessed a gradual easing in Covid-19 measures, with the aim of returning “Asia’s world city” after a considerable outflow of expats due to the battered economy and uncertain economic outlook. The city’s stock market positively welcomed the news although being heavily exposed to the Mainland rather than Hong Kong itself. The city’s de facto central bank had too to raise interest rates in the local currency due to its peg with the USD.
In Mainland China Covid-19 Zero approach has now reached its end, as at time of writing this piece. The country remained the last major nation following such approach. The shift in policy initially began in Q4 and will witness greater opening up in 2023.
Besides the Covid-19n situation, the country’s real estate sector went through a rough year, with prominent developers suffering due to financing struggles amid policy changes, rising rates and halted mortgage payments on unfinished residential developments.
The turmoil also hit the cryptocurrency markets, where prominent exchanges collapsed almost overnight and major crypto currencies continuing their rollercoaster rides. Bitcoin lost over half of its value in 2022, and while 2018 was a worst year on relative terms, the damage done in 2022 was much broader given its growth, with the plunge inflicting losses in dollar terms three times greater than in 2018.
Asset Classes & Strategy Implications
Implementing a more defensive allocation and selection partly helped fending off this year’s turbulent market moves. As always diversification is much to thank for as well, being a key component of our portfolio construction, and that enabled us to limit exposure to more sensitive assets. We have been maintaining a constant allocation and selection throughout the year with certain rebalancing and reinvestments leading to a noticeable performance difference compared to our benchmarks.
Such positive deviation does not nonetheless mean we can let our guard down and go on holidays. Markets nowadays react shockingly and almost irrationally fast to headlines, and that is in both directions, thus in case of a rebound.
Given the uncertain outlook, no major investment reallocations had been made over the year. Such conditions can sometimes lead to bias decisions and unnecessary trading. We have largely remained put, as we believe our core portfolios are well structured to weather the current environment, while monitoring for tactical opportunities.
The fixed-income asset class has come under considerable pressure over the year. Long-term debt, and government bonds we the most to suffer from rising interest rates. Holding only short to mid duration securities has helped us over the last 12 months in limiting downward pressure on asset prices within our holdings, thus protecting performance, while generating stable cash income. Of course, should the global economic situation improve and central banks finding themselves to cutting back down interest rates in the short to midterm, the same long-term debt that went through a rough year, could turn out to be the winner then, thereby we closely monitor our maturities, which are currently up to 2026.
Within the equity space, no major markets were spared from the rollercoaster ride, leading to a disappointing end of 2022. The rally of Q4 was not sufficient enough to net off the losses of the previous three quarters. Stocks may be trading at attractive discounts, however, need evidence of long-term economic rebound and moderating inflation to rally back to fair value.
On the alternative investment side, our exposure to commercial real estate as well as trade finance, both remained quite resilient, hedging the negative performance in other asset classes, witnessing asset appreciation as well as regular income streams. Gold went through much of a rollercoaster to ending the year at close levels as to where it began.
Having gone through such revaluations this year, the question continues to remain: Could the economic darken even more, or are we reaching the end of the tunnel?
The economic outlook has certainly deteriorated since the beginning. Inflation remains at near 40-year highs, the war in Ukraine continues and supply chain disruptions are far from resolved. Monetary policies act with a lag, meaning the results of r interest rates could lead to stagnant economic growth over the first half of 2023.
China opening up and shifting away from the zero Covid-19 approach will also be a catalyst to be watched both for Asian-centric as well as global market participants.
Yet, while near-term dynamics remain challenging, our focus remains on diversification. That is across asset classes as it is a key pillar in the portfolio construction and risk management and as we remain focused on a long-term investment approach.