Monthly Market Report: May 2023

Recession Concerns Deflate Markets

Prepared by Brandon Yee, CFA, CAIA, and Thomas Connelly, CFA, CFP

Developed Markets Drop

In the month of May, international developed stock markets returned -4.36%. Japan and the U.S. recorded returns of 1.86% and 0.60%, respectively. The U.K. and Pacific ex Japan lagged other markets. International developed markets are up 6.24% YTD while the U.S. market is up 9.58%. The recent change in relative performance between international developed markets and the U.S. market is due to investor enthusiasm with U.S. artificial intelligence companies. However, this current rally in the U.S. market may not be sustainable as the outperformance is being driven by a very narrow number of stocks. Most companies in the U.S. market are down or flat for the year.

India and Korea Rebound

Broader emerging markets posted a –2.33% return for the month. India and Korea recorded returns of 2.91% and 4.80%, respectively. China and Mexico lagged other markets in May. China’s abrupt reversal of its zero-Covid policy has brightened the country’s economic outlook; however, concerns over their real estate market and debt load have tampered expectations recently. Low valuations relative to the U.S. and international markets may help emerging market investors going forward.

Telecommunications and Information Technology Outperform

Telecommunications and information technology recorded returns of 2.61% and 9.37%, respectively, in May. Energy and materials lagged other sectors this month. The information technology sector has rebounded this year after its steep 2022 decline. Much of the rally in this sector has been driven by a small number of technology companies, especially companies benefiting from increasing adoption of artificial intelligence applications. Increasing use of ODTE (zero days to expiry) options, the possibility of short covering and the gains restricted to only a few technology companies may make this rally short lived. Further tightening of monetary policy by central banks could create a tough environment for the information technology sector.

Value Stocks Underperform

In May, value underperformed growth in the large-cap space and the small-cap space. Momentum recorded a return of 1.08%. Value stocks across the world continue to trade at large discounts relative to growth stocks. Value-oriented sectors such as energy, financials, and materials may still have much more room to run.

Growth Stocks Outperform in the International Markets

In the international developed markets, growth outperformed value in the large-cap space and small-cap space for the month. Momentum recorded a return of -4.60% while small-cap emerging market stocks posted a return of -2.33%. Valuations of value stocks are still very low relative to growth stocks in both international developed and emerging markets, which is consistent with the US market. Rising interest rates may also pose more of a risk to growth stocks than value stocks.

Year Over Year CPI Remains Elevated

In May, the three-month Treasury bill index returned 0.39%. From the beginning of 2022 through the end of May 2023, the annualized interest rate on the 90-day Treasury bill increased from 0.08% to 5.52%. Savers are now getting paid much more interest. However, they still face low real interest rates due to inflation remaining high as the CPI increased by 4.96% over the past year through the end of April. This means the real return to cash investors is still small even before considering taxes.

Fixed Income Investments Drop

The returns of deflationary hedges were mostly negative for the month. The Bloomberg Barclays U.S. Agg Bond Index returned -1.09% for the month. In May, leveraged loans and catastrophe bonds recorded returns of -0.18% and 1.63%, respectively. Long-term government bonds lagged the market as interest rates increased. Catastrophe bonds are up 8.56% YTD. Insurance-linked securities like catastrophe bonds are benefiting from higher premiums that insurance companies are demanding from buyers. The higher premiums are a result of the larger realized losses in recent years experienced by the insurance companies.

Inflation-Sensitive Investments Fall

Inflation-sensitive investment returns were negative for the month. The Alerian MLP index and gold bullion returned -0.52% and -0.92%, respectively, in May. The Bloomberg Commodity index posted a return of -5.64%. Gold bullion is up 8.31% YTD. Oil prices were down for the month, but oil markets continue to be tight. Capital expenditures by oil companies have been muted in recent years, which will impact future supply. Consumers may face spikes in oil prices if demand picks up and supply remains constrained.

U.S. Dollar Mixed Versus Other Currencies

Over the past three months, the U.S. dollar depreciated against the Euro, British Pound, Mexican Peso and Swiss Franc. Over the past year, the U.S. dollar strengthened against the Japanese Yen, Australian dollar, and Chinese Yuan. The continuation of U.S. fiscal and trade deficits may weigh on the U.S. dollar in the medium-term to long-term. Gross federal debt to GDP stands at 121% and is forecasted to increase throughout the decade.

Brandon conducts investment due diligence for Versant Capital Management, and designs and implements tools and processes to support the firm’s research. His background in biology and finance help him to look at challenges from multiple angles, resulting in unique and well-rounded approaches and solutions.

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