2022 was a very challenging year. Central banks spent the year pushing interest rates higher at their fastest pace for decades in the face of an inflation shock, partly driven by an excessive post-pandemic stimulus and second, by the rise in energy and food costs exacerbated by the war in Ukraine. By the end of the year, concerns were raised at the prospect of a slowing global economy and rising risk of recession; the question being about what type of recession we get, rather than whether it happens or not.
In China, a rising wave of COVID cases threatens a haphazard transition from a ‘zero-COVID’ to a ‘living with COVID’ policy. A swift, but seemingly underprepared re-opening is likely to suppress activity as illness (and sadly death) spreads fear amongst the population. Signs that China is grappling with issues in its property market and has a government focused on a return to growth are a more positive story for later this year.
Consumer confidence is very low and central banks seek to suppress demand to bring inflation back down. Offsetting this are strong consumer balance sheets, low unemployment levels, and rising (nominal) wages, but the ferocious collapse in ‘real’ earnings growth will begin to suppress demand. Lower growth and falling inflation are the order of the day, but inflation isn’t done with us yet.
Central banks’ mood music is diverging. The Bank of England maintains interest rates won’t need to be as high as markets were pricing in, particularly in the wake of September’s mini-budget, which sent UK gilt yields higher. The US Federal Reserve Chair, Jerome Powell, is telling markets interest rates will need to go higher than they are pricing – undermining his own forward guidance earlier in the year now means markets don’t believe him. The ECB is belatedly looking positively hawkish, screaming for more and more rate rises.
2022 was atrocious for fixed income markets. The US 10 year, the world’s risk-free rate, saw its yield balloon from 1.6% in January to 4.3% in October, before drifting back towards 3.8% by year end (higher yields mean bonds trading at lower prices). Longer dated fixed income was particularly hard-hit – 50-year UK Government Gilts were down 60% from their January values at the peak of negativity. Whilst we continue to use strategic bond funds and short-dated fixed income funds to reduce the impact from rising yields, they too posted deeply negative returns. Whilst there were few places to hide, after the destruction, comes the recovery and fixed income markets are now also providing the potential for attractive long-term returns.
The mood in equity markets remains skittish, but a recovery since the beginning of Q4 holds out some hope, though a Santa relief relay failed to materialise. The picture though is through 2022, equity market valuations have fallen. Some have fallen from expensive to fair value, such as US equities, others, particularly the UK and Japan are looking cheap vs. history. Plenty of bad news was priced into markets through 2022, which make prospective long-term returns from equities look attractive, particularly from those cheaper markets, albeit a further catalyst will be required to unlock this.
Sterling may have strengthened recently but this was from oversold levels triggered by the Kwarteng/Truss mini-budget debacle. In 2022, the dominance of the US dollar is the main currency story.
Brent Crude started the year just below $80/barrel, peaking at just shy of $130/barrel, and finished the year at c$86 per barrel. Gold ranged from $1622-$2052 during 2022 but finished the year broadly where it started at c$1840oz.