Overall Market Summary:
Global shares and bonds had a strong quarter as the US Federal Reserve signaled potential interest rate cuts for 2024. Developed market equities outperformed emerging markets, which were affected by concerns over China's real estate sector. Crude oil prices fell despite output cuts.
United States:
US shares posted significant gains in the final quarter of the year, fueled by expectations of impending interest rate cuts. The S&P 500 index closed the year near its record high from early 2022.
US inflation slowed, with the consumer price index (CPI) decreasing from 3.7% in September to 3.2% in October and 3.1% in November. The Federal Reserve's (Fed) preferred inflation measure, the core personal consumption expenditure (PCE) index, rose only 0.1% month-on-month in November. Economic growth for Q3 was revised down to an annualized rate of 4.9% from 5.2%.
These data points reinforced market expectations that the Fed has completed its rate-hiking cycle and may move toward cuts in 2024. Fed Chair Jerome Powell acknowledged the risk of maintaining restrictive rates for too long, and minutes from the Federal Open Market Committee's latest meeting suggested that rates could end next year at 4.5%-4.75%, down from the current 5.25%-5.5% range.
US shares rallied strongly on these expectations. Interest rate-sensitive sectors, including information technology, real estate, and consumer discretionary, were top performers. The energy sector, however, posted a negative return due to weaker crude oil prices.
Europe:
Eurozone shares had a strong final quarter, buoyed by expectations of no further interest rate increases. The MSCI EMU index rose by 7.8%. Leading sectors included real estate and information technology, while healthcare and energy underperformed.
Shares were supported by softer inflation figures from both the eurozone and the US, raising hopes that interest rates might have peaked and cuts could be on the horizon in 2024. Euro area annual inflation fell to 2.4% in November from 2.9% in October, significantly lower than the 10.1% from a year earlier.
Higher interest rates have pressured the eurozone economy. Eurozone GDP fell by 0.1% quarter-on-quarter in Q3, and the HCOB flash eurozone purchasing managers' index (PMI) fell to 47.0 in December, suggesting likely economic contraction in Q4.
Most sectors rose amid optimism over future rate cuts. Real estate and IT stocks performed well, while the energy sector fell due to weaker oil prices. Stock-specific factors weighed on the healthcare sector.
United Kingdom:
UK equities rose over the quarter, with small and mid-cap indices outperforming the broader market as domestically focused stocks performed well. This was driven by hopes that interest rates had peaked and an increase in overseas bids for smaller UK companies.
Large internationally exposed and economically sensitive areas, particularly in the industrial and financial sectors, also performed well. However, larger companies were held back by a strong sterling against a weak US dollar.
UK inflation moderated more than expected, with the consumer price index dropping to 3.9% in November. This fueled hopes that the Bank of England might have ended its rate hikes. Revised data showed UK GDP fell in Q3, contrary to previous zero growth estimates.
Chancellor Jeremy Hunt's Autumn Statement included more policy measures than expected, such as extending the 100% capital expenditure allowance, which allows companies to deduct expenditure on plants and machinery from taxable income.
Japan:
Despite some weakness in October and December, a strong November led to a 2.0% gain for the TOPIX Total Return index in Q4. In October, concerns over persistent US interest rates and heightened geopolitical risks, including renewed Middle East conflict, weighed on market sentiment. However, weaker-than-expected US macroeconomic figures improved investor sentiment, leading to expectations of US rate cuts.
Although the US market continued to rise in December, Japanese equities lagged due to concerns over yen appreciation. Growth stocks outperformed value stocks over the quarter, and small caps regained ground against large caps.
Corporate fundamentals remained strong, with robust earnings results for the first half of the fiscal year. The weak yen supported corporate performance, and many companies disclosed plans to address lower valuations. The overall macroeconomic conditions in Japan improved, supported by the BOJ's gradual steps towards normalizing its monetary easing policy.
Asia (excluding Japan):
Asia ex Japan equities gained in Q4 as hopes of peaked US interest rates renewed investor appetite for risk assets. All markets in the MSCI AC Asia ex Japan index ended the quarter positively, except China, where concerns over weaker economic growth and insufficient government stimulus measures weighed on sentiment.
Taiwan, South Korea, and India were the strongest markets, driven by gains in technology stocks and chipmakers. Malaysia, the Philippines, and Singapore also saw strong growth, while gains in Indonesia, Thailand, and Hong Kong were more muted.
Emerging Markets:
Emerging market (EM) equities were strong in Q4 2023, although they lagged behind developed markets. Signs of a US “soft landing” and expectations of 2024 interest rate cuts supported EM performance, while China continued to drag overall EM performance.
Poland was the top performer, boosted by Donald Tusk's election as prime minister. Peru, Egypt, and Mexico also posted strong double-digit returns in US dollars. Brazil outperformed due to ongoing signs of disinflation and reduced policy rates. Taiwan and Korea benefited from strong tech stock returns, while Greece and South Africa also saw gains.
Saudi Arabia just outperformed the index, while markets like Kuwait, UAE, China, and Turkey lagged. China's mixed economic data suggested a lackluster recovery, and ongoing real estate crises continued to weigh on sentiment. Turkey was the worst performer due to high inflation despite rate hikes.
Global Bonds:
The final quarter of the year was very positive for fixed income markets, marking their best quarterly performance in over two decades, driven by a perceived shift in monetary policy towards prospective rate cuts. Government bond yields fell sharply, and credit markets rallied, outperforming government bonds.
The US Federal Reserve (Fed) maintained rates, with a dovish tone in December accelerating the market rally. The revised dot plot indicated three rate cuts anticipated for 2024. Major central banks held rates steady, though cautious about inflation. The ECB progressed in unwinding its Pandemic Emergency Purchase Programme support, while the Bank of England's Monetary Policy Committee remained divided on further tightening.
Government bond yields fell across the board. The US 10-year Treasury yield fell from 4.57% to 3.87%, the UK 10-year gilt yield fell from 4.44% to 3.54%, and the German 10-year Bund yield dropped to 2.03%.
Corporate bonds rallied on hopes of avoiding a deep recession. High yield markets outperformed investment grade in both the US and Europe. Investment grade bonds had their best quarterly returns since Q3 2009, with strong performance across all sectors.
In the FX market, the Swedish krona was the top performer among major currencies. The Fed's pivot towards rate cuts weighed on the US dollar.
Balanced convertible bonds, as measured by the Refinitiv Global Focus index, gained 6% in US dollar hedged terms. Convertible primary markets remained active, with US$22.4 billion of new issues in Q4, bringing the annual issuance to US$90 billion, about double the volume of 2022.