U.S. Equity Investment Environment
Despite the ongoing pandemic, record inflation and looming interest rate hikes, 2021 delivered robust returns. U.S. equities had a banner year with the S&P 500 recording 70 closing highs to end with a 28.7% gain. The S&P 500’s top 50 mega caps rose 31%, and the top five largest positions accounted for approximately 20% of the year’s gain. Mid- and small caps kept pace with the S&P Mid-Cap 400 closing the year up 24.8% and the S&P Small-Cap 600 +26.8%, outpacing the Russell 2000’s 14.8% due to the S&P 600’s higher quality characteristics. Across mid- and small-cap issues, despite monthly divergence, value handily outperformed growth in 2021. Within the S&P 500 all sectors posted gains for the year led by energy, up a dramatic 54.6%, a stunning turnaround following its 33.7% loss in 2020. Energy’s relatively low weight in the index meant that it only contributed 1.2 percentage points to the benchmark’s 2021 return versus the 28.7% weight of the information technology sector that gained 34.5% and accounted for 10 percentage points of the benchmark’s 28.7% return. Volatility rose in the final quarter in reaction to the Omicron variant, the Federal Reserve’s shift toward inflation fighting and year-end portfolio rebalancing and de-risking.
International Equity Environment
International performance was positive with the MSCI All Country World ex-USA index up 7.8% for the year. The MSCI EAFE (Europe, Australasia, Far East) index rose 11.3% while Emerging Markets missed out on 2021’s rally losing 2.5%, with most of the decline in the last half of the year. The MSCI EM’s decline was primarily attributable to China’s huge index weight, about one third of the index, and investor-unfriendly policies that led to its loss of 21.7%. Brazil, Chile and Columbia’s double-digit losses were also detractors. Strong gains from India, Taiwan and Mexico, up 26.2%, 26.1% and 22.5% respectively, failed to offset declines elsewhere. The MSCI Europe index added 6.4% in December, lifting its annual return to a strong 15.7%. Every country finished the year with a positive return, led by Austria, up 41.5%, the Netherlands at +27.6% along with Norway and Sweden. The UK’s 18.5% gain contributed to the MSCI EAFE’s favorable return due to its heavy index exposure. In Europe, information technology and energy were the best performing sectors, up 38.1% and 36.6%, respectively.
Fixed Income Environment
U.S. fixed income performance was mixed with gains in high yield while Treasuries declined. The Federal Reserve pivoted its position to inflation-fighting from a policy of economic support when it announced on December 15th an earlier taper and at least three interest rate hikes in 2022. While interest rates eased in the fourth quarter, resulting in positive returns, for the year the Barclays U.S. Aggregate index lost 1.5% as long-term U.S Treasuries and corporate bonds declined -4.7% and -1.2%, respectively. Bond prices move in the opposite direction to interest rates. The 30-year U.S. Treasury bond began the year with a yield of 1.65% and closed December at 1.90%. High yielding low-quality bonds rose 5.3% for the year as demand drove yields lower and prices higher. High-yield bonds closed 2021 with the narrowest spread to comparable Treasuries since the financial crisis. Strong demand, due to potential tax increases, drove municipal bond prices higher with the Barclays Municipal Bond index closing the year up 1.5%.
Commodities performed well in 2021 driven by gains in the energy complex, up 60.7%, that fueled inflation. The S&P GSCI rose 40.4% in 2021. The Industrial Metals index rose 29.6% but the Precious Metals index was down 5.1%. Gold futures traded more than 5% lower, and silver lost nearly 15%.