PPS Investment Perspectives – The equity markets in Q4 2023
Financial markets had a strong final quarter of 2023, driven by optimism that steadily declining inflation meant the interest rate cycle had most likely peaked. US Federal Reserve rhetoric in December cemented this belief, with the “dovish pivot” further supporting interest-sensitive assets.
Financial markets were propped up by better-than-expected global macroeconomic data this year, most notably growth and inflation.
The South African equity market (FTSE/JSE Capped SWIX TR) spent most of 2023 inside January’s trading range, eventually ending the year up 7.9%. The Index was held up by Financials and Industrials (up 21.8% and 17.3%, respectively) but Resources fell sharply (down 15.4%) as platinum shares and Sasol came under pressure.
The SA market’s entire return for the year was achieved in the fourth quarter (up 8.2%), with banking and gold shares extending their rallies. Although SA bonds (FTSE/JSE All Bond Index TR) delivered a similar return to equities this quarter (up 8.1%) they outperformed for the full year (up 9.7% vs 7.9%), despite higher interest rates.
Foreign equity (up 7.8% for the quarter) had a stellar year, with the MSCI ACWI TR climbing 31.3% in rands, boosted by the stronger dollar (7.5% appreciation against the rand). US equities were the main driver, fueled by technology stocks. Foreign bonds continued their recovery this quarter (up 4.9%), following the protracted sell-off in US Treasuries to 2007 levels, with the FTSE World Government Bond Index eventually ending the year up 13.1% in rands.
Portfolios positioning
We remained somewhat cautious in 2023, visible through our slight underweight positioning in foreign equity for most of the year. Our main concern was the rapid ascent of interest rates from ultra-low to pre-GFC levels, which we believe presented skewed downside potential for both the economy and equity markets. In the past, acute tightness has almost always led to some degree of economic weakness or a serious financial accident of some sort but, so far, this time has been different.
We still see the potential for a near-term soft patch in US growth, though the timing is unclear. Irrespective, with rate cuts on the horizon, we are more comfortable that the odds of a serious downturn have lessened, and that any weakness would be relatively minor. We therefore increased the foreign equity allocation across portfolios during the fourth quarter. We are currently neutral on foreign and local equity in our tactical asset allocation house view while acknowledging that valuations in SA are more favourable than offshore.
Most of our underlying SA equity managers unfortunately lagged the market in 2023, impacted by stock selection within the banks and resources sectors. The intentional high-conviction construction of PPS Equity means near-term underperformance is inevitable from time to time, but we believe is an essential element of positioning for meaningful long-term outperformance. This quarter we introduced a fourth manager, 36One, into the local equity strategy, enhancing the underlying manager mix.
Outside of equity, we also upweighted foreign bonds during the quarter, as the 10-year US treasury yield topped 5%. Bonds have endured a historic sell-off to 2007 levels and after not owning direct exposure in portfolios for many years, we are now overweight in relevant portfolios. The opportunity set has broadened with rates and bond yields now higher. As a result, portfolios are now more diversified than in previous years, and managers have more choice in general.
We remain neutral on SA bonds, having downgraded the asset class late in April, on fiscal risk concerns. Subsequently, the “Lady R” saga brought about unwelcome volatility during implementation, while bonds have since strengthened.
