September 2023 – Fed massive bond sales continue

SFRR MTD returns -2.54% (+10.61% YTD)

SFPG MTD returns -1.76% (+14.59% YTD)

SFQS MTD returns -3.79% (+21.65% YTD).

In September, bond sales by the major central banks triggered large movements in asset prices. USD rose 2.5% against Euro, while the US 10-year bond fell -3.7%, the S&P 500 fell -4.87% and the Nasdaq 100 dropped -5.07%.

Other than the central banks’ continuing to reduce their balance sheets in an attempt to cool down the economy without further increasing interest rates, there is little more to comment on markets’ performance in September. Inflation picked up in the US during August, reaching 3.7%, and eased slightly in Germany from 6.2% to 6.1%. While rates are already making a dent in some sectors, the Federal Fund Rates remained unchanged at 5.50%, the Bank of England left them at 5.25%, whereas the ECB raised them by a quarter point to 4.5% (Deposit facility at 4%).

Although lower long-term inflation is anticipated, expectations of protracted higher rates have increased. With little room left for central banks to raise rates further without causing major disruptions, the card they are playing is to reduce their balance sheets by selling bonds across the entire yield curve. Thus, the Fed’s bond sales have reduced the liquidity reserves held by commercial banks, effectively limiting their ability to lend. The high correlation between the price of the US 10y bond and the EURUSD has proven to be remarkable, and both have moved in total synchrony minute by minute. With an appreciating dollar and such a rapid rise in the effective medium-term interest rate, all that was left for stock markets to do was to fall, with the US indices in the lead.

The positive note is that markets (S&P 500) have not broken important support levels, such as the 200-session average. For now, we can only interpret this rebound as a correction within the bull market we have been enjoying throughout 2023. With the very negative narrative that has dominated economic projections since last year, we have, however, been able to anticipate a much more benign market than was expected by using technical analysis and quantitative strategies. According to this negative narrative, economy should have been in recession and rates in an easing phase by now. However, both consensus and economists’ projections were once again wrong, to the detriment of those who, anticipating further market fall, preferred using market timing to find those bargains that, however, are a long time in coming.

In our funds, we accumulated YTD returns of 15% on average (from +10.61% to 21.65%), backed by the strong recovery of the high-quality companies in which we invest (that still have considerable upside potential) and the excellent performance of our hedging strategies, with positive returns in Nasdaq and USD and a limited cost in S&P500. These strategies have been designed by Altex to optimize the use of shorts on assets that we believe are bullish over the long term, to protect against short term corrections, and to outperform the indices over the long term.

This month, the contribution of our long USD and short index positions have given us an advantage over the S&P500 and Nasdaq, allowing us to gradually distance ourselves from stock indices, which are currently overweight in companies whose valuations are less attractive than most other companies in the investment universe.

Looking ahead, we expect to see in the fourth quarter a moderately positive tone in risk assets, especially in the factors in which our portfolios are overweight (Quality, Growth and Momentum). The rise in interest rates will necessarily take a pause –if it has not already done so– thus giving higher consequence to corporate earnings. We do not expect small cap and high growth companies to recover until the recession becomes a fact and speculations on imminent rate cuts surface; however, with their current attractive valuation the risk of entry has been greatly reduced. Portfolio Value and Low Vol Equities will be trickier to manage over the coming months as the end of the cycle and markets’ reaction to new interest rate policies will be difficult to predict. We will, therefore, continue to overweigh growth and high-quality equities, and US 10-year bonds to diversify both risks and sources of returns.