After seeing markets fall dramatically through the month of September, investors entered October with a high level of caution and expectations for further weakness. These beliefs proved accurate for the first part of the month, as the S&P 500 and many other markets fell to new lows on the year and looked to be heading down further. However, investor sentiment rebounded mid-month, allowing markets to stage an impressive recovery.
In the end, October finished with strong returns across equity markets, leaving many traders puzzled as to why the sudden turnaround.
As has been often the case this year, equity markets are following the lead of the fixed-income and currency markets. Those markets need to stabilize first before there is any chance of a sustained equity rally.
The US 10-year bond began the month with a yield of 3.6% and quickly moved higher to 4.25% before settling out around 4% to end the month. Moves like this are not common, but for investors, the glimmer of hope is that this type of price action is more often seen near the end of a move than at the beginning. And that adds to the debate around whether we are close to a ‘pivot.’
The Bank of Canada, one of the first global central banks to begin hiking rates last summer, may have been among the first to ‘pivot.’ The Bank surprised watchers by hiking rates ‘only’ 50bps in their most recent meeting, below the expectations of 75bps. Actions such as this are a positive for risk assets and help build the case that we are getting into the late innings of this tightening cycle.
As we enter the last two meetings of the year for the US central bank, the FOMC is in a tricky situation as they look to signal their path forward. The aggressive rate hikes they have undertaken need time to work their way through the system and have the desired impact on inflation. In the meantime, they run the risk of breaking something or causing a financial crisis if they keep up this pace. So, it may be time for a pause to survey the results and get a better read on the economy. This thinking is one of the primary reasons for the bounce in October.
Q3 earnings season is off to a decent start for most companies. Financials and commodities have been able to surprise to the upside and offset the weakness of the large-cap technology companies. Much like the situation in the early 2000s after the dot.com bubble, there was a rotation in factor leadership from growth to value. The market reaction to these earnings reports may be the first indication this factor shift may be repeating. For example, during a month in which many of the leaders from the past bull market experienced double-digit declines, the fact that markets were higher shows how this factor rotation is progressing.
October has been the month during which more bear markets have bottomed than any other. We have twelve examples of these occurrences for the S&P 500 since WW2. Did we just witness the thirteenth? It's probably too soon to tell, but it's been a good start so far. Volatility remains elevated, and many asset classes continue on track for one of their worst years ever. Still, the tone of the markets is beginning to change for the better, and that is starting to help optimism for 2023.
— Greg Taylor is the Chief Investment Officer at Purpose Investments
Sources: Charts are sourced to Bloomberg L.P.
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