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Capital Markets Update: January 2023

NOVA Wealth1 February 2023

Market updates from January

In a Nutshell

After only a month, the New Year has already seen sharp changes in some markets, and intensification of existing trends in others. In the UK, the government has outlined their growth plan for the new year, emphasising entrepreneurship and investment within UK borders. However, in both the US and UK, stringent monetary policy and trends in government bond yields have led some to anticipate continued market volatility and possibly even recession. On the other hand, China has shown excellent recovery following the removal of the stringent zero-tolerance Covid policies seen across 2022.

UK government expand on plan to combat inflation and fuel growth

Towards the end of the month, Jeremy Hunt has expanded on the government’s plan to combat inflation and boost economic growth, as initially set out in last year’s Autumn Statement. In a speech delivered at Bloomberg’s London headquarters, Hunt emphasised the importance of expanding the UK’s key growth sectors in 2023 - especially tech, which Hunt hopes will drive Britain to become “the world’s next Silicon Valley”. Specifically, the government plans to review regulations in these key sectors to incentivise further investment and entrepreneurship. Both Sunak and Hunt have also stressed the importance of educational reform, with £2.3 billion of additional funding for 2023 and 2024 committed in the Autumn Statement. Hunt expressed hope that these reforms will ensure “world-class skills sit alongside world-class degrees”.

However, some argue that current trends in interest rates and gilt yields indicate a coming recession in the UK. One such indicator is the inversion of gilt yields seen during January. Over the month, ten-year yields dropped below two-year yields, with the former sitting at 3.35% and the latter at 3.49%. Under normal economic conditions we would expect long-term yields to be higher than short term - since investors are “rewarded” with a higher payout for lending money for a longer period of time. When this reverses, it suggests that the market is flocking to buy longer-dated bonds to avoid the volatility of short-term investing in an unstable economic environment. This - combined with interest rate hikes that have dampened UK markets (especially housing) - suggests we may see turbulence continue in the coming months

Bond yields indicate recession in UK and US

US markets have seen fairly middling growth over January. Over the month, the NASDAQ Composite was up around 11%; the S&P 500 by around 6%; and the Dow Jones Industrial Average by 2.5%. However, tech stocks performed well following a dip over the last 6 months. Tesla had a strong recovery, with 45% growth across the month. Alphabet Inc was up 13%; Microsoft by around 4%; Apple by 12%; and Amazon by 21%.

The US has seen similar indicators of continued market volatility to the UK. Firstly, the Fed has committed to continue its stringent monetary policy and interest rate hikes into the New Year. Despite dramatic increases in rates over the last 6 months, Jerome Powell argued in his December statement that the Fed has still not achieved “a stance of monetary policy that is sufficiently restrictive to return inflation to two percent”. Secondly - and similarly to the UK - the US has already seen heavy inversion of one-year and ten-year Treasury bond yields for much of 2022. One-year yields currently sit at 4.68%; while ten-year yields are 3.52%.

China opens borders for travel and trade

China celebrates the Year of the Rabbit following the Lunar New Year. The year of the Rabbit brings Hope, peace, and prosperity, and we could all certainly do with more of those.

The New Year saw China u-turn on its zero covid policy, despite seeing a wave of new Covid cases across the country. The initial plan of reopening the country was chaotic, with numerous people failing to get the basic medical support and hospital operating at maximum capacity. The fear of catching Covid meant that people were staying home and not spending.

China re-opened its borders on 8 January to the rest of the world, ending quarantine for inbound travellers. However, many countries have imposed strict testing requirements for Chinese tourists for fear of a new covid spread. However, at some point Chinese tourists will reignite tourism expenditure in popular countries like Japan, Thailand, UK, France and Italy.

This is vital because Chinese tourists have “deep pockets”. According to the World Tourism Organisation, Chinese travellers spent $277 billion overseas in 2018 and $255 billion in 2019, contributing to 20% of all international tourism spending. As China hasn’t opened since the outbreak of the virus in 2020, we could see a significant increase in expenditure on flights, hotels, restaurants, and shopping. China’s reopening of its borders will support global growth and assist Western economies that are expected to be or close to being in a recession.

As domestic activity returns, demand from Chinese travellers will heavily impact the supply and price of oil. According to the US Energy Information administration, China was consuming 14% of the world’s oil in 2019, and 7% of global jet fuel. This gives the potential for oil prices to increase as Chinese airports are operating 60% lower than usual and outbound flights are 10% of pre-pandemic levels.

Investors flock back to Chinese stocks

The CSI 300 index has been 7% up year to date and 18% higher since its low point last Autumn. Other markets in Asia have performed better with Hang Seng in Hong Kong had an incredible performance, up about 45% since October.

In less than 3 weeks of the new year, foreign investors have bought a new $15.3 billion of Chinese stocks through Hong Kong and the mainland. The purchases have exceeded $13 billion in net buying in all of 2022, the lowest since 2017.

With the end of the zero-covid policy, Chinese economic growth is set to outperform other major economies in 2023. Chinese equities have rallied hard and foreign investors remain bullish in the country’s economy. Overall, the year of the rabbit will hopefully set a calmer year for Chinese and foreign investors.

Looking ahead

While the economic outlook for 2023 is uncertain, it only emphasises the importance of a long-term investment approach. Market volatility is often followed by a market recovery that pays dividends, both literally and figuratively.

For example, research of US stocks between 1926-2021 indicates that after US stocks fall 10% from a recent peak, they recover an average of 12.5% over the next 12 months, or 34.5% over the next 36 months [1] .

What’s more, between 1997 and 2021, US stocks returned an average of 9.8% per year [2] , despite also seeing the Great Recession, a global pandemic, the Asian Financial Crisis, tech bubble collapse and numerous other periods of extreme volatility.

With this in mind, the best investors will generally keep their focus on the long term and stick to a robust financial plan. Whilst we can’t know for certain what tomorrow will look like, a diverse portfolio and carefully managed cash flows can help us weather even the worst storms. To book in an initial chat with the team, click here.

Important information:

The value of an investment, and any income from it, can fall or rise. Investors may not get back the full amount they invest. Past performance is not a reliable indicator of future results. Personal opinions may change and should not be seen as advice or a recommendation.

[1] US stocks as per the S&P 500 1926-2021. Data and research sourced from Dimensional, 2022*

[2] In US dollars. S&P 500 Index annual returns 1997–2021. Data and research sourced from Dimensional, 2022*

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