Equity Outlook: Charting a Course Beyond Uncertainty

Equity market volatility persisted in the third quarter as investors came to terms with a new reality of high inflation and rising interest rates. With macroeconomic concerns continuing to set the tone, a fundamental approach to companies can help investors chart a course through today’s uncertainty.

Despite modest advances during the quarter, stocks in most markets gave back their gains and have posted steep losses this year. The MSCI World Index fell by 4.4% in the third quarter in local currency terms (Display) and was down by 21.9% in the year to date. Stocks in Australia and Japan did relatively well. Emerging markets underperformed, weighed down by sharp declines in China.

Most sectors declined during the quarter. Consumer discretionary stocks—previously a big casualty of growth fears—advanced. Energy companies continued to rise, fueled by high oil and gas prices. Healthcare, technology and communications underperformed. Growth stocks outperformed value stocks in the quarter yet have trailed by a wide margin so far this year (Display).

Inflation and Interest Rates Set the Mood

As the fourth quarter begins, the mood is gloomy. The US Federal Reserve has hiked interest rates sharply and is committed to an aggressive policy stance. There is no “painless way” to rein in high inflation, said Fed Chair Jerome Powell on September 21, as the Fed raised its benchmark policy rate by 0.75 percentage point, taking the federal funds rate target to between 3% and 3.25%. Powell’s statement was seen as an acknowledgement that the US economy is in for a hard landing—and possibly recession.

In Europe, the Bank of England and the ECB also face a tricky balancing act, complicated by an impending energy crunch. Soaring natural gas prices ahead of winter threaten potential fuel rationing because of the loss of supply from Russia, as the war in Ukraine grinds on. In the UK, the new chancellor of the Exchequer Kwasi Kwarteng unveiled a mini-budget including massive tax cuts and fiscal easing measures at a time when inflation exceeds 10%. The moves rattled investor confidence, prompted dramatic declines in the British pound and raise the risks of destabilizing the economy. Fears are rising that the eurozone may be on the brink of recession as well.