U.S. Equity Investment Environment
In a year of wild swings, the market took an extraordinary turn following Fed Chairman Powell’s Jackson Hole speech. The Federal Reserve reaffirmed its commitment to fight inflation, which reversed a summer rally, taking all major indices to their lowest levels of the year. The S&P 500 posted losses of 4.9% in the third quarter and 23.9% year to date, sending the VIX index above 30 once again. The S&P Mid-Cap outperformed the S&P Small-Cap 600 this quarter, down 2.5% and 5.2% respectively. While growth stocks have experienced the largest drawdowns so far in 2022, value underperformed growth in the third quarter across all capitalizations. In September, every sector across equity benchmarks posted negative returns. For the third quarter, the S&P 500’s communication services sector was the weakest at -11.6%, followed by real estate at -11.0%. The consumer discretionary and energy sectors proved the most resilient with respective third-quarter gains of 3.9% and 1.7%. Year-to-date, energy was the only positive sector across the S&P 500, mid-cap and small cap benchmarks with impressive gains of 33.9%, 26.9% and 23.4%, respectively.
International Equity Environment
International equities continued to lose ground during the third quarter driven in part by historic dollar strength, which negatively impacted U.S. investors overseas. The MSCI EAFE benchmark of developed markets saw a 9.4% drop for September alone, bringing the index down 27.1% for the last nine months. Japan, the benchmark’s largest weight, pulled back 7.7% in the quarter and is down 26.4% year-to-date as the dollar rose to its highest level versus the yen since 1998. Germany, Ireland, Netherlands, Sweden, and Austria are now all down more than 35% year to date. Late in September the British pound hit its weakest level ever versus the U.S. dollar while the euro’s exchange rate fell below $1 U.S for the first time since 2002. Emerging markets retreated during the quarter with the MSCI Emerging Markets Index down 11.6% and 27.2% year-to-date. China, representing more than 30% of the index, saw a sharp reversal from the second quarter as it dropped 31.2% for the year. Turkey returned an impressive 16.3% this past quarter as President Erdogan surprisingly cut interest rates. Energy-producing countries continue to outperform with Chile, Qatar and Brazil posting gains of 12.4%, 9.9% and 11.5%, respectively, so far this year.
Fixed Income Environment
Inflation remains stubbornly elevated, dropping only slightly to 8.3% in August vs 9.3% the previous month. The Federal Reserve continued to raise the Fed Funds rate by another 75 bps in September to 3-3.25%, the highest level since 2008. Additional raises to 4.40% are expected in the Fed’s final two meetings of the year. Yields on the 10-year U.S. Treasury jumped rapidly to 3.97% on September 27, its highest level since 2010, to end the quarter at 3.83%. The yield curve remains inverted which continues to indicate a recession is looming. In response to rising interest rates, the Bloomberg U.S. Aggregate Index declined 4.0% in the third quarter to finish the first nine months off 13.2%. Municipal bonds haven’t fared much better down 3.3% for the quarter and 11.6% year-to-date. Across all sectors of the bond market, 90-day Treasury Bills have provided the only safety net, albeit meager, at 0.62% through September.
The S&P GSCI Index recorded a loss of 10.3% in the third quarter, driven lower by weaker prices for energy, industrial metals and precious metals. Energy was the worst performing component of the index, with sharply lower prices for crude oil, Brent crude and unleaded gasoline offsetting higher prices for natural gas. Within the precious metals component, the price of both gold and silver declined in the quarter as the dollar strength continued to deliver headwinds.