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Market Update
October 6, 2021

Q3 Market Commentary - A Side Step In Time

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Quarter 3 2021 - Market Commentary

A Side Step In Time

The third quarter of 2021 is likely to go down as one for investors to largely forget. Not because markets were particularly bad, but because not much changed between the start and the end of the period. Obviously there were ups and downs in between, but both the global stock and bond markets went broadly sideways. In fact both fell slightly – equities were down 1.1% while bonds fell by 0.9% in the three months to September 2021. Not much to write home about whichever way you look at it.

Still, we can’t have too much to complain about. Year-to-date equities are up over 11%, and while bonds are down slightly, a typical portfolio of 60% global stock market and 40% global bonds would have delivered a healthy return of over 6% since the start of the year.

Let’s find out what have been the movers and shakers over the past three months.

Equities Review:
Energy Shines Brightest

In August the Intergovernmental Panel on Climate Change issued a sobering report on the irreversible damage human activity has caused to the environment. The UN Secretary-General António Guterres called it "code red for humanity”. The report explained we are extremely close to the limit of 1.5 degrees above pre-industrial global temperatures and urged nations to up their efforts to achieve net zero emissions. You might have thought this announcement would be a disaster for oil and gas company shares. But you would have been wrong.

With the rising cost of energy now making headlines in many countries around the world it’s the Energy sector (which is dominated by oil and gas companies) that ended as the biggest winner of the past three months. Although it languished at the bottom of the performance table for most of the quarter, a strong rally from mid-August meant it overtook all other areas. In fact it was one of only four (along with Financials, Information Technology and Healthcare) of the major eleven equity sectors that posted positive gains during the period.

The Energy sector’s returns are heavily influenced by oil and gas prices, which have been rising. Oil producers are struggling to keep pace with surging demand as economies are opening back up, and this has pushed prices northwards. Gas is also in short supply due to lower-than-usual reserves following cold winters in both Europe and Asia and this too has forced prices up.

This scenario alone certainly isn’t a strong case for a long-term investment in oil and gas companies. Renewable energy sources are of course widely viewed as the inevitable long-term successor to fossil fuels for our energy needs. That doesn’t necessarily mean you should completely shun the Energy sector though, or any other sector for that matter. We think a properly diversified portfolio should include exposure to all areas, no matter how unloved they are.

Moving onto the opposite end of the return spectrum now and the standout worst performer was China, whose stock market fell over 18% during the quarter. Confidence in the Chinese stock market has been knocked by the news surrounding Evergrande – one of China’s largest property developers. It’s struggling to pay interest due on its mammoth $300bn debt and many investors are wary of the potential for the company to collapse and the knock-on impact that could have. These worries also spilled over into the broader Asia Pacific and emerging markets, which also declined.

Another Asian country, however, managed to buck the trend. Japan was the best performing of the major stock markets during the latest quarter. It rose 4.6%, which compares favourably to the next-best performing – the US, with a 0.3% gain. Japan’s strong performance followed the resignation of former-Prime Minister Yoshihide Suga, whose support dwindled after only a year in the role. Like the Energy sector, Japan has also been very out-of-favour with investors for many years. As the world’s second largest stock market and third-largest economy, however, we think it still deserves a place in well-diversified portfolios – you never know what will be topping the performance charts from one period to the next.

Bonds & Alternatives Review:
Inflation Dominates

With all the rising energy costs, inflation worries still linger among investors. This has resulted in another quarter where inflation-linked bonds performed better than the broader global bond market. Among all the major types of bonds they were the only ones to post positive numbers on the board over the past three months – albeit only just, at 0.6%.

While some investors’ forecasts of further inflation benefitted inflation-linked bonds, it’s held back other types of fixed-interest. Inflation erodes the value of fixed interest payments over time and so conventional bonds become less attractive to investors. Not only that, some predict central banks will begin increasing interest rates to deal with rising inflation, and that would also be bad news for bonds – broadly speaking, if interest rates rise bonds will fall.

The result of all this is the total global bond market, including government, corporate and high-yield bonds all drifted into negative territory during the past three months. Again, not by much though – the biggest faller was global treasuries (government bonds) which fell by 1.1%.

With oil and gas prices on the rise, and the fact they make up around 30% of the global commodity index, it’s perhaps no surprise that the broad commodities market performed strongly, gaining 8.1%. Gold on the other hand didn’t fare so kindly. It looked on course to finish the quarter in the black but pulled back in September as the US Dollar strengthened (gold tends to move in the opposite direction of USD) and finished just the wrong side of break even at -0.6%.

We still view gold and bonds as useful assets to diversify portfolios. While they don’t offer the same long-term growth potential as equities, they can provide useful protection during turbulent markets. So although gold and bonds might give investors buyer’s remorse when stock markets are rising strongly, you may be glad to have them in your portfolio when stock markets turn sour.

All data in USD terms to 30 September 2021

Written By
Jonathon Curtis
Head of Investments
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