Will you be a winner or end the year on the losing side in 2024?

⦁ Last month US Central Bank FED had its first rate cut after four and a half years. FED cut its benchmark rate by 0.5% on the back of a soft job market. This is not one of its largest rate cuts, but it is definitely a deviation from its usual 0.25%. Even though the rate cut came as no surprise to market players, it still contributed to some volatility in the global financial markets given FED’s bold stance in fighting the slowing job market. Yet neither we nor the financial markets expected the level of impact of FED’s decision across such a broad set of asset classes.

⦁ The real reason for the excitement in the global financial markets was the improved sentiment regarding the global macroeconomic conditions. In September markets became more convinced that there was decent room for more rate cuts by not just the FED but other developed market central banks as well. The most recent OECD report published in September underlined this exact theme. OECD’s economic forecast for 2024 shows the GDP of bigger economies are expected to not just grow but grow over 2.5%

⦁ The longer term expected inflation inched up in September (gray line) vs. August (green) as FED addressed the lower implied inflation by reducing its benchmark interest rate. However, the nominal yields still dropped. Why? Because the long-term real rates dropped as the expected long-term cost of financing dropped alongside lower FED rate. As the drop in real rates was bigger than the increase in implied inflation, the nominal yields dropped as well.

⦁ Global equities had a decent month on the back of the first FED rate cut since March 2020. As of September 24th, the US equity index S&P 500 was up by +1.5% on the month, bringing its year-to-date return to +20.2%. The European stock index Euro Stoxx 50 was slightly down by -0.4% over the same period pulling its year-to-date return down to +9.3%. Global emerging market equity index MSCI EM was also up by a whopping +5% in September as liquidity worries waned bringing its year-to-date return to +13.2%.

⦁ Crypto currencies experienced some level of volatility which worried some investors. After all was said and done crypto currencies benefited from easing global liquidity conditions and reversed some of their losses from prior month. As of September 24th, Bitcoin was up by +9% on the month, while Ethereum gained +5.8%. Despite its weak performance in August, Bitcoin maintained its impressive year to date performance with +51.1% while Ethereum visibly underperformed Bitcoin by delivering +16.2% since the end of 2023.

⦁ Monetary easing helped gold as well. In September gold continued its upward trajectory that commenced in 2023. This was partially driven by the drop in US dollar against global currencies as FED cut interest rates. Given gold is priced against the US dollar, a drop in the base currency for gold (i.e., US dollar) pushed up the gold price which was supported in part by the uncertainty due to the approaching US elections. As of September 24th, the first month futures contract for gold was up by +5.9% on the month pulling its year to date return up to +29.2%.

⦁ Despite the ongoing conflict in the Middle East, a major oil-producing area and weakness in the US dollar against global currencies, crude oil continued its downward streak in September on the back of potential production increase by OPEC+ and weakness in global macroeconomic fundamentals. A drop in the base currency for oil (i.e., US dollar) creates an upward pressure on the crude oil price. As of September 24th, the first month futures contract for US crude oil WTI was down by -2.7% on the month, dragging its year-to-date return down to -0.1%.

⦁ The positive outlook in global equity markets helped the Turkish stock market as well. As of September 24th, Borsa Istanbul Index BIST100 was up by +2% in local currency terms (+1.9% in US dollar basis) over the month bringing its year-to-date return in local currency terms to +34.3% (+16.2% in US dollar basis). The year-to-date performance of BIST100 in US dollar terms visibly underperforming its return in local currency is due to the appreciation in the greenback against Turkish Lira by +15.6% since the end of 2023.

⦁ FED interest rate cut and creates an opportunity for investors to reposition their portfolios. It has indeed proven to be an opportune time for delivering strong returns across a broad set of asset classes. This environment however comes with increased volatility in financial markets. Fluctuations may persist going into the last quarter of the year particularly on the back of the US elections which has proven to be quite eventful so far. Investors could exploit this scenario by a careful underweight in their equity allocations, possibly with a slight overweight tilt to their bonds, and/or other investments such as gold which tend to provide a level of protection to portfolios in visible market downturns and during periods of volatility.

⦁ This environment would also allow for credit investments, such as corporate and high yield bonds, which are priced off government bonds, to appreciate particularly for longer maturity instruments. While our longer-term macro view calls for continued upside to financial markets, with asset prices so elevated, the risk for a market correction seems to be growing. Investors could consider reducing some risk in their portfolios by moving some of their assets to cash while allowing the markets to cool off.

WILL YOU BE A WINNER OR END THE YEAR ON THE LOSING SIDE IN 2024?

As we near the end of the year and the holiday season, it is important to remember that historically this is when markets start experiencing some serious whipsawing effects. This year this effect may be even bigger as many central banks are starting to pivot from monetary tightening to easing since Covid. Investors should be vigilant going into the last quarter of the year as this last stretch may very well dictate whether they will be winners or losers in 2024.

It is impossible to discuss the markets last month without mentioning the US Central Bank FED’s first rate cut after four and a half years… and not only by just a quarter point, FED cut its benchmark rate by 0.5% on the back of a soft job market. This is not one of its largest rate cuts, but it is definitely a deviation from its usual 0.25%. Even though the rate cut came as no surprise to market players, it still contributed to some volatility in the global financial markets given FED’s bold stance in fighting the slowing job market.

As our readers will remember from our earlier issues, we were expecting some volatility. What neither we nor the financial markets had expected was the level of impact of FED’s decision across such a broad set of asset classes. This was because the markets hadn’t fully priced in FED’s rate cut. As a result, September turned out to be an overly optimistic month for markets.

MARKETS EXPECT MORE RATE CUTS BY CENTRAL BANKS

Of course, it would be naïve to assume that global markets were simply overjoyed by one interest rate decision by one central bank, however important that central bank may be. The bigger reason for the excitement in the global financial markets was the improved sentiment regarding the global macroeconomic conditions. In September markets became more convinced that there was decent room for more rate cuts by not just the FED but other developed market central banks as well.
ImageCase in point, the most recent OECD report published in September underlined this exact theme. OECD’s economic forecast for 2024 below shows how the GDP of bigger economies are expected to not just grow but grow over 2.5%.

Despite looming inflation, OECD expects more rate cuts for the FED, Bank of England (BOE), European Central Bank (ECB) over the next few years. See the graph below.

 

With this backdrop, it would be impossible for the markets not to be overjoyed. Rate cuts mean quantitative easing, which means more liquidity and lower cost of capital for individuals as well as for businesses. This is great news for markets all around.

EQUITIES CONTINUED TO RALLY IN SEPTEMBER

As expected, global equities had a decent month on the back of the first FED rate cut since March 2020. As of September 24th, the US equity index S&P 500 was up by +1.5% on the month, bringing its year-to-date return to +20.2%. The European stock index Euro Stoxx 50 was slightly down by -0.4% over the same period pulling its year-to-date return down to +9.3%. Global emerging market equity index MSCI EM was also up by a whopping +5% in September as liquidity worries waned bringing its year-to-date return to +13.2%. The global equity market returns also reflected the continuing positive sentiment with global equity indicator MSCI All Country World Index (ACWI) gaining +1.7% in September reaching +17% since the year end.

BOND PRICES CONTINUED TO INCREASE

Since May bond prices have been on the rise. US yield curve continued its shift downwards that started in April. What that means is both the short as well as the longer-term yields have been going down since earlier in the year. The key here is understanding what is pushing the yields down.

While shorter durations are driven by the central bank interest rate decisions, longer term maturities rely more on expected inflation and real rates (in a simplified form nominal rate = expected inflation + real rate). The reason behind the recent drop in the short end of the yield curve is clear – it is because the FED has started its quantitative easing. The drop in the long end of the yield curve however is not as clear cut.

LONG TERM REAL RATES DROPPED AS WELL

So far, the drop in nominal rates has been due to a drop in expected inflation which is illustrated in the graph below and covered in our earlier issues. In September, the story changed slightly. As illustrated in the graph below, the longer term expected inflation inched up in September (gray line) vs. August (green) as FED addressed the lower implied inflation by reducing its benchmark interest rate. However, the nominal yields still dropped. Why? Because even though expected inflation went up, the long-term real rates dropped as the expected long-term cost of financing dropped alongside lower FED rate. As the drop in real rates was bigger than the increase in implied inflation, the nominal yields dropped as well. As a reminder, nominal rate = expected inflation + real rate.

Source: Bloomberg

In line with the drop in long-term bond yields, as of September 24th, Bloomberg Global Aggregate Bond Index, High Yield Bond Index as well as the Global Corporate Bond Index continued their upward performance. All three indexes were up by +1.4%, +1.6% and +1.8% on the month bringing their year-to-date returns to +4.6%, +9.3% and +5.5% respectively.

CRYPTO CURRENCIES HAD A GREAT COMEBACK VS AUGUST

Crypto currencies benefited from easing global liquidity conditions and reversed some of their losses from prior month. As of September 24th, Bitcoin was up by +9% on the month, while Ethereum gained +5.8%. Despite its weak performance in August, Bitcoin maintained its impressive year to date performance with +51.1% while Ethereum visibly underperformed Bitcoin by delivering +16.2% since the end of 2023.

GOLD CONTINUED TO ASCENT IN SEPTEMBER

Monetary easing helped gold as well. In September gold continued its upward trajectory that commenced in 2023. This was partially driven by the drop in US dollar against global currencies as FED cut interest rates. Given gold is priced against the US dollar, a drop in the base currency for gold (i.e., US dollar) pushed up the gold price which was supported in part by the uncertainty due to the approaching US elections. Investors turn to gold as a store of value and a hedge against uncertainty and inflation. As of September 24th, the first month futures contract for gold was up by +5.9% on the month pulling its year to date return up to +29.2%.

CRUDE OIL HAD ANOTHER DOWN MONTH

As a brief recap, crude oil prices are driven by both demand and supply dynamics. Despite the ongoing conflict in the Middle East, a major oil-producing area and weakness in the US dollar against global currencies, crude oil continued its downward streak in September on the back of potential production increase by OPEC+ and weakness in global macroeconomic fundamentals. Same as gold, crude oil is also priced against the US dollar. A drop in the base currency for oil (i.e., US dollar) creates an upward pressure on the crude oil price. As of September 24th, the first month futures contract for US crude oil WTI was down by -2.7% on the month, dragging its year-to-date return down to -0.1%.

TURKISH STOCKS RECOVERED PARTIALLY IN SEPTEMBER

The positive outlook in global equity markets helped the Turkish stock market as well. As of September 24th, Borsa Istanbul Index BIST100 was up by +2% in local currency terms (+1.9% in US dollar basis) over the month bringing its year-to-date return in local currency terms to +34.3% (+16.2% in US dollar basis). The year-to-date performance of BIST100 in US dollar terms visibly underperforming its return in local currency is due to the appreciation in the greenback against Turkish Lira by +15.6% since the end of 2023.

INVESTORS COULD CONSIDER TAKING SOME RISK OFF THE TABLE

We have previously discussed the repercussions of a potential FED interest rate cut and how investors should take this opportunity to reposition their portfolios. It has indeed proven to be an opportune time for delivering strong returns across a broad set of asset classes. This environment however comes with increased volatility in financial markets. We do expect these fluctuations to persist going into the last quarter of the year particularly on the back of the US elections which has proven to be quite eventful so far.

We had noted in our previous issues that investors could exploit this scenario by a careful underweight in their equity allocations, possibly with a slight overweight tilt to their bonds, and/or other investments such as gold which tend to provide a level of protection to portfolios in visible market downturns and during periods of volatility. This environment would also allow for credit investments, such as corporate and high yield bonds, which are priced off government bonds, to appreciate particularly for longer maturity instruments. While our longer-term macro view calls for continued upside to financial markets, with asset prices so elevated, the risk for a market correction seems to be growing. Investors could consider reducing some risk in their portfolios by moving some of their assets to cash while allowing the markets to cool off.

WILL YOU BE A WINNER OR END THE YEAR ON THE LOSING SIDE IN 2024?

As we near the end of the year and the holiday season, it is important to remember that historically this is when markets start experiencing some serious whipsawing effects. This year this effect may be even bigger as many central banks are starting to pivot from monetary tightening to easing since Covid. Investors should be vigilant going into the last quarter of the year as this last stretch may very well dictate whether they will be winners or losers in 2024.

ELA KARAHASANOGLU, MBA, CFA, CAIA
International Investments Director
karahasanoglu@turcomoney.com
ela.karahasanoglu@ekrportfolioadvisory.com
https://www.linkedin.com/in/elakarahasanoglu/