Markets fell in December, capping a challenging year for investors, with both equities and bonds declining over the month. Global equities fell 4.9% in Sterling terms whilst UK government bonds lost 4.4%. During the month, highly anticipated US inflation numbers came in below expectations for a second month, with CPI rising 7.1% over the last year versus 7.3% expected. Inflation came in lower than expected because of continued deflation in the goods market, as supply chain frictions have dissipated. Shelter (housing) costs however continued to rise on a monthly basis, although some forward-looking indicators imply a softening of this data. This has increased the likelihood that the Fed can pause its rate hiking cycle early in 2023. However, several central banks pushed back on this narrative, with the European Central Bank (ECB) announcing a 50bps rate hike with the intention of moving in that increment going forward, which was a hawkish surprise for markets.
The biggest announcement in sustainability came from Europe, who announced the finalisation of the carbon border tax adjustment. This imposes taxes on the importation of polluting goods such as steel and cement, which aims to support European businesses who are decarbonising and prevent ‘carbon leakage’.
Within equities, the UK, Europe ex-UK and Emerging Markets were the strongest regions, with the latter supported by news of the reopening of China, bringing to an end their controversial zero-COVID policy. The weakest region by some distance was the US, which was dragged down by falling expectations for corporate earnings as well as a weak US dollar. Our holding in the Pacific Longevity and Social Change fund outperformed over the course of the month.
Fixed income markets were weak in December, responding to hawkish comments from the ECB and a shift in policy from the Bank of Japan, which adjusted its yield curve control policy, allowing JGB yields to move higher. We remain underweight fixed income markets but continue to believe that the outlook has improved, particularly for inflation protected government bonds.
Alternatives and diversifying assets continued to provide diversification benefits in an environment of falling equity and bond markets. Within diversifying assets, our exposure to the Japanese Yen, through a very short dated JGB bond ETF, rallied sharply over the month in response to the announcement from Bank of Japan. We think that the Yen remains significantly undervalued versus major currencies and has the potential to move higher in 2023.
