Quarterly Investment Update

Slowing economic activity, rising inflation, political uncertainty and default fears in the Chinese property sector was the story in Q3. Developed market equities closed the quarter marginally higher, in contrast with Chinese and Emerging Market equities which experienced losses of 6% and 8% respectively. During September however Chinese equities staged a comeback, rising 1.3%, while developed market equities experienced losses in excess of 3%. Government bond yields rose sharply in the final weeks of September, as persistent overshoot in inflation readings during the quarter and a relatively more hawkish tone from Central Banks around the world prompted investors to re-think the attractiveness of long duration fixed income assets. A spike in energy prices due to a combination of heightened demand and limited supply, coupled with broadening inflation pressures due to production and supply chain bottlenecks make the fixed coupon payments provided by bonds to look more and more unattractive. For the time being, investors don’t seem to demand materially higher interest rates to continue funding governments around the world, but if inflation turns out to be rather sticky, it is hard to see how this will continue to be the case.

The US economy experienced strong positive momentum during the quarter, with the jobless rate edging further down, consumption and personal incomes rising and manufacturing activity expanding at a high pace. However, the rising inflation is weighing on consumer optimism; inflation as measured by the Labour Department’s consumer-price index was 5.3% in the 12 months through August, close to the highest in 12 years. Prices, excluding the volatile food and energy categories, rose 3.6% in August from a year earlier, matching annual increases in June and July. Mr. Powell acknowledged that there are risks that price pressures are higher than anticipated or more enduring and that the Fed would raise interest rates “if sustained higher inflation were to become a serious concern”. In its September meeting the Fed’s chair said the central bank could “easily move ahead” with announcing a “taper” of its asset purchases in November if the economy continues to improve as expected.

Europeans are leaving their houses to go shopping, eat out, travel and visit cinemas as much as they did before the pandemic in a sign of returning consumer confidence across the eurozone. High frequency data from airports and domestic public transport show that Europeans feel emboldened by high Covid-19 vaccination rates, despite a slew of worrying economic news including higher energy bills. European gas prices have risen more than 6-fold in the past six months due to a rapid increase in energy demand since lockdowns eased and limited storage facilities. The surge in energy prices caused Eurozone inflation to rise to its highest level for 13 years in September. Consumer prices in the 19 countries that share the euro rose 3.4 per cent compared to a year ago, up from 3 per cent in August. Eurostat said the acceleration in prices was driven by a 17.4 per cent rise in energy costs from a year ago, while excluding the more volatile energy, food, alcohol and tobacco prices, core inflation rose from 1.6 per cent in August to 1.9 per cent in September. German inflation hit 4.1 per cent in September, its highest level for 29 years. Despite that, Christine Lagarde has distanced the European Central Bank from the move towards tighter monetary policy, a step many other central banks have taken, promising not to “overreact to transitory supply shocks” driving inflation higher

Economic activity is slowing down in the UK, with retail sales volumes falling in both July and August and PMI readings hitting seven-month lows. That is mainly due to spiking energy prices, global supply chain tensions and the impact of Brexit on the stock of EU workers. UK’s inflation rate hit 3.2% in August, and traders bet that the BoE will move with an interest rate hike as early as February next year. In the meantime, the labour market continues to strengthen as there is a solid, steady increase in employment.

Sweden’s economy shrank far more than anticipated in August driven by a slump in exports, raising concerns the recovery of the largest Nordic economy may be cut short. Gross domestic product contracted 3.8% in August, the biggest fall since the monthly indicator was launched in February . The export-driven economy is being increasingly hit by supply-chain bottlenecks; exports fell to the lowest level since January and as a result the trade deficit widened to the highest level in five years. In its September meeting the Riksbank said that it expects interest rates to stay at 0% for the entire forecast period and that asset purchases will continue during 2021, but at a reduced pace.

Regulatory crackdowns, severe market stress in the real estate sector and slowing economic activity were the highlights for the Chinese economy in Q3. Business activity deteriorated materially during the summer but bounced back in September, following some government support. In July, Chinese authorities banned companies that teach school curriculum subjects from making profits, in an effort to alleviate the widening education disparity in the Chinese society. The decision sent shockwaves through China’s equity markets. During August, Evergrande, China’s most indebted property developer has warned that it was experiencing severe distress, causing another shock for the market. Chinese equity indices are now out of favour among many investors, creating possible buying opportunities for others.