Market snapshot: strong start to Q4 continues

A third-quarter disaster has been followed rather neatly by a rally timed to coincidence with the beginning of the final quarter of 2022. Our head of markets explains why.

Markets started the final quarter of the year on the front foot, as new economic data tempted cautious investors to return to a risk-on approach.

Weaker than expected manufacturing data from the US was taken as a signal that rising interest rates may be having some effect on cooling demand for goods. This in turn led to hopes of a Federal Reserve pivot, even though the spectre of inflation remains firmly at the top of their stated to-do list, and that one data point in isolation is unlikely to change their immediate course.

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Even so, the news also led to some weakness in US 10-year Treasury yields, which settled at around 3.7%, having brushed above 4% last week. The move prompted gains in bank stocks as well as growth stocks, which have been under considerable pressure, as the future value of profits is potentially eroded by rising interest rates. Utilities were also stronger given their yield sensitivity and traditional exposure to higher debt, which leads to higher refinancing costs.

The relief rally may have been welcome, but it may also be transitory. Underpinned by brittle sentiment and general volatility, the general direction of travel has become somewhat entrenched, with major indices no more than in the foothills of recovery. Indeed, in the year to date, the Dow Jones remains down by 19%, the S&P500 by 23% and the Nasdaq by 31%.

Asian stocks lacked the input of China and Hong Kong, which were closed for holidays. Australia injected some hope into the region, as its central bank lifted interest rates by just 0.25%, rather less than expected, prompting wider hopes that other monetary authorities might also consider such a wait and see approach.

The UK government’s decision to reverse part of its previous tax cutting plan also had a disproportionately positive affect on sentiment generally, with sterling recouping some of its previously precipitous losses following the initial announcement.

Nonetheless, the longer term impact of the attempt to stimulate growth is yet to be proven, while the government’s initial announcement seemed at odds with what the Bank of England is trying to achieve. More volatility is likely to follow, however, as the global economy grapples with high and persistent inflation and the central banks attempt to tame it without tipping into recessionary territory.

In the meantime, the more positive sentiment heralding the new quarter also tipped over into UK markets, with the FTSE250 higher in response to a marginally improved outlook for the economy. While the road to recovery will likely remain long and arduous, with the index down by 26% so far this year, some of the declines have enticed buyers with longer-term optimism about prospects.

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The FTSE100 also opened higher, with a combination of broker upgrades and decent trading updates lifting some of the wider financial stocks.

The index may remain down by 5.6% in the year to date, but is a relative outperformer in global terms. With its large exposure to overseas earnings as well as a smattering of established, defensive plays which, underpinned by an average dividend yield of 4.1%, it ticks a number of boxes for overseas and institutional investors alike.