Market Update - September 2021
While September is historically the worst month for stocks (glad that’s behind us!), October is known to be the most volatile. And while we don’t expect this year to be too spooky (the stock market has averaged a return of +0.92% in October over the past 40 years), Halloween is already on our minds!
Here's a list of America’s top 10 favourite Halloween candy by sales volume:
Reese's Cups (yes please!)
M&M's (as long as they are peanut butter)
Sour Patch Kids
Tootsie pops (really?!)
And here is a state by state map of the top October sellers:
With all the global stock market commotion lately, maybe everyone just needs a Snickers…
On to the economic stuff
Global equities managed to close a 6th consecutive quarter of gains in September, while bonds remained at a standstill. In spite of this, the pace of stock returns slowed over the past three months after headwinds picked up late in September (chart below).
Overall, top performers for the last quarter were U.S. equities and, more specifically, defensive and high-growth stocks. However, while these were top-performing assets for the quarter, they were also the hardest hit in September (chart below).
In fact, September was the first month of losses for the S&P 500 since January 2021. Interestingly, September has historically been a more challenging month for the stock market; its average return is the lowest (going back to 1930).
Is this just a speed bump before gains resume to close out the year (the end of the year is usually strong for markets, especially December)? Or will current volatility persist throughout the fourth quarter? To better answer this, let's examine the four key risk factors that should dictate how markets will behave for the remainder of the year.
The topic of the future path of inflation is complex. Sure enough, the latest inflation report showed a reversal in prices for the few areas largely responsible for the sharp rise over the Summer months, such as new and used vehicles (chart below).
Yet, while we have likely seen the peak in year-over-year inflation, other elements could keep underlying price measures elevated.
To start, a category to watch closely will be the cost of rent for residences. Historically, a rise in real estate prices has tended to translate into a rise in rents. Thus, even if the growth in house prices were to slow, their increase over the past year could influence rents for several months to come.
A second inflation element to monitor is wages. Labour shortages were an issue even before the pandemic. But with many 55+ workers choosing to retire early, the shortage of workers has visibly worsened in 2021. Wages are now showing their strongest increase since 2007 (chart below).
In sum, the most likely scenario remains a gradual cooling of inflation toward a level that will nonetheless be higher than in recent years. Beyond the path inflation ultimately takes, a key factor for the stock and bond markets will always be what central banks (primarily the US Fed) do in parallel. In this regard, the outlook is beginning to become clearer.
2. Policy makers in the U.S.
Speaking at the conclusion of the September 22nd FOMC (Federal Open Market Committee) meeting, Jerome Powell essentially confirmed that the Central Bank was poised to begin a gradual reduction of its asset purchases. Thus, barring a surprise deterioration in the labour market, the Fed's asset purchase program should taper by about $15 billion per month starting in November, to see the total balance sheet stabilize near the $9 trillion mark by June 2022.
A gradual reduction in asset purchases has long been expected, what was surprising however was the updated FOMC members' rate projections. Although dispersion among policymakers remains high, the median projected rate rose by roughly 1 hike in 2022, 1 hike in 2023, and revealed the first projection of 3 hikes in 2024 (chart below). If the below is to be believed, interest rates over the coming years could be headed a lot higher than was previously thought.
Meanwhile in China, policymakers also remained in the spotlight, this time because of the ongoing financial woes of Evergrande, the country's second-largest real estate developer. The company's situation has only worsened since the Chinese government issued a series of new rules aimed at curbing the chronic problem of excess debt in its real estate sector in August 2020. Unable to meet the leverage ratios required by regulators, the company has seen its share and bond prices plummet as it moved or moves? closer to an inevitable default (chart below).
This debacle raised fears of contagion effects across the global economy. However, the most likely conclusion is a soft bailout (buyouts of Evergrande's projects and shares bought by other developers and state-owned enterprises) ensuring the survival of this critical sector, but still resulting in losses for the company's shareholders and some of its creditors.
No economic newsletter would be complete without an updated view of the pandemic. On a positive note, however, the health situation actually took a positive turn in September (when considering the number of new cases in the developed world) (chart below).
The bottom line - Our baseline scenario continues to call for a gradual deceleration in growth over the coming months, albeit still positive. Against this background, equity markets should continue to outperform more defensive bonds. However, we must expect higher volatility and more modest returns.
We expect bond yields to rise gradually, while global equities should continue to increase along their long-term trend.
This view is based on the following assumptions:
Waves of new COVID-19 cases arise at different times in different countries. The number of hospitalizations and deaths fluctuates but remains far from reaching a state of crisis thanks to the success of the vaccination campaigns that are ramping up in developing countries.
The economic recovery continues, but the pace of growth slows. Strong underlying trends such as a substantial accumulation of excess savings, a strong recovery in the service sector and accommodative monetary conditions maintain growth rates above their long-term average.
The majority of developed countries' policy makers pursue a gradual and cautious phase-out of emergency fiscal support. In the U.S., the Biden administration manages to pass a social package that includes some tax increases, albeit of a smaller magnitude than originally planned.
Annual inflation declines slightly but remains volatile. Several transitory forces exerting upward pressure on prices abate. Still, a strong economy and structural factors keep inflation relatively high. Central banks initiate a gradual and cautious adjustment of their ultra-accommodative monetary policies.
That’s it for this week. We will be sure to post additional thoughts and comments as market volatility warrants.
As always, please reach out to Colin, Brett, Angel, Charlie, myself, or one of our other team members to discuss questions about your investment portfolio.
Have a great October!
- Your Creed Capital Management Team