Monthly summary – October

Rising bond yields, recession fears and war! Following a dismal performance in August and September, equity markets continued down in October with a third consecutive month of falling prices. On top of the worries of “higher for longer” bond yields and the implicit risk for the overall economy going forward, the Hamas terrorist attack against Israel made investors even more reluctant to take on equity risk.

Continued fears of a looming recession

Even though the atrocities in Israel only had a negligible impact on the global economy at large and the price of oil in particular, they added to an already fragile risk sentiment as it came at a time when investors were already fretting over the implications of the rise in long-term bond yields.  The hostilities were seen against a backdrop of government deficits and rapidly increased interest rate payments, but economic activity held up well, more so in the US than in Europe where there was some contraction. Investors´ attention was however centered on the risks rather than the opportunities with fears growing of a looming recession, where falling demand could hurt corporate margins.

Close to an end for the rate hiking cycle?

The central banks’ rate hike cycle seemingly came to, or close to, an end in October. As expected the European Central Bank left its interest rate unchanged, while the Federal Reserve was expected to follow suit at its next decision on November 1st as inflation cools. The Bank of Japan on the other hand adhered to its newfound upped threshold of 1 percent.

 Mixed reception for the Q3 earnings

The Q3 earnings season had a mixed reception. Even though earnings in the quarter held up well, outlooks overall were somewhat more cautious. Better-than-expected results were met with a shrug (albeit with some exceptions) while missed targets were punished hard, again depicting the risk-off sentiment during October.

Polarized US politics

In the US, the Republican party voted for Mike Johnson from Louisiana as the new speaker of the house after Kevin McCarthy was ousted. The appointment was hoped to avoid a Federal shutdown on November 17th. However, Johnson also went against the Democrats in not wanting to pass the Biden-administration´s support packages for Ukraine and Taiwan, again highlighting the polarization in US politics.

World index down

The world index fell back for a third consecutive month in October. Information technology and consumer staples showed the relatively best performances while consumer discretionary and energy fared worse. Looking at the regions, the US outperformed Europe with Japan as the weakest market.

OUTLOOK

The healthcare sector had a tough month in October. Earnings reports were generally received negatively, irrespective of whether a specific report was good or bad. The sentiment was bad and a sense of panic overshadowed the small and mid-cap segments.

Interest rates in focus – yet again

Investors’ main focus has been on higher interest rates, and a large wave of selling shares in companies with uncertain prospects has washed over the market. In all probability, a peak and a stabilization of the ten-year interest rates is coming soon. However, the stock market does not yet know, with sufficient certainty, that real interest rates will not go even higher and become even more restrictive (slowing down economic activity) as new issues of US government bonds continous to be extremely large. This is occurring at a time when the Federal Reserve is selling off of its large holding of previously purchased bonds. In short, we are seeing stressed financial markets, but we believe that they are about to calm down.

Changes to the fiscal policy needed

With this in mind, it is difficult to make short-term forecasts. On a positive note, the higher US growth will lead to increased tax revenues which in turn will lead to a slightly lower budget deficit. At the same time, the interest burden for the US government is getting heavier as old low-interest bonds mature and must be replaced by new ones at a significantly higher rate. It will take a whole new fiscal policy after the US election to deal with the budget deficit and the fact is that it simply has to happen. There is no alternative.

For better or worse, the healthcare sector is not currently at the center of events. But there are plenty of cheap stocks in the sector. The question is when will the market think it is worth acting on that insight. It may be delayed into the new year depending on the bond market. However, everything points to the healthcare sector being part of a possible equity rally that usually takes place at the end of the calendar year. In that case, the winners will probably be mainly among companies with somewhat higher growth. This would constitute a reversal of the last few months correction.