Global equity markets finished the quarter higher despite the emergence of Omicron, runaway inflation, and shrinking monetary and fiscal support. Bonds also experienced positive returns as investors grappled with Omicron’s potential fallout. Moving into the new year, much of 2021’s uncertainty lingers on. In this edition, we interpret the results of the last quarter and outline our forecast for the first quarter of 2022.
Central bank policy rates remained unchanged in Canada and the United States throughout the fourth quarter. However, we’re now approaching the highly anticipated rate hikes for 2022. Though we are still neutral on money market securities, a material increase in bond yields could prompt our shift to longer-term debt assets.
Leading up to the final quarter of 2021, bond yields were on the rise, influenced by future expectations for higher inflation and tighter monetary policy. This trend stalled in the fourth quarter as Omicron made its presence felt, spreading like wildfire. Underlying bond managers modestly underperformed due to their overweight commitment to corporate bonds and shorter duration periods (which offer less sensitivity to interest rate changes). We think bond yields will trade in a tighter range in 2022 and will likely test recent highs as inflationary pressures persist.
In the fourth quarter, global equity investors opted to focus on strong corporate earnings versus the many significant concerns noted above. Emerging markets continued to lag their developed market peers as China’s regulatory changes, as well as COVID-19 and its variants, continued to cause havoc. Growth stocks regained favour compared to value stocks as lower bonds yields and a renewed "working from home" theme boosted technology stocks. Moving into 2022, we think value stocks will outperform as investor focus circles back to economic growth.
Despite improving fundamentals, Canadian Investment Grade Corporate Bond spreads widened slightly in the fourth quarter. Gains generated by the bonds’ interest rate components were enough to offset any losses resulting from the changing yield spreads experienced throughout the period. We are still overweight in this asset class as compared to government-issued bonds.
North American central bank policy rates remained unchanged in the fourth quarter. However, tighter monetary policies are already underway as evidenced by changes to bond purchasing programs, which have been rolled back in the United States and transitioned to the reinvestment phase in Canada. Although this year's potential rate hikes should be mostly priced into government bond yields, we expect inflation and resilient economic growth to put some upward pressure on yields. We remain underweight in this segment of the bond market.
Financials and Materials stocks boosted the Canadian equity component in the fourth quarter. Given attractive valuations and the composition of Canada’s economy and stock market (with significant sectors that benefit from global growth), we continue to be overweight in Canadian equities.
Though US economic growth slowed in the fourth quarter, robust corporate earnings drove that country’s stocks higher. Moving forward, we believe the focus on rising rates and US Federal Reserve tapering will spark increased volatility, especially for growth stocks. That said, we expect strong corporate fundamentals to keep US equity market returns positive. Our overweight position in this asset class remains unchanged heading into the first quarter of 2022.
Benefiting from strong corporate earnings, International markets experienced positive returns in the fourth quarter, with the eurozone outperforming Asia. Emerging markets continued to struggle, but we believe many of the persistent issues that weighed on Emerging Market stocks throughout 2021 are already priced in. We shifted from an overweight to neutral position for International equities as we think economic recovery beyond North America will continue to lag.
Asset allocation decisions result from ongoing discussions within our Private Client Investment Strategy Committee. We begin by making strategic investment decisions against an internal benchmark—for example, the Balanced Growth Benchmark Portfolio—that is based on a neutral asset mix and stable market conditions.1 The difference between our investment strategy and the benchmark portfolio reflects our active commitment to effectively managing risk and delivering on our long-term return objectives. In updating our investment strategy, we review our investment portfolio and benchmark and complete any required trades.
NOTES:
1. The Balanced Growth Benchmark Portfolio is comprised of 40% fixed income assets and 60% equity assets.