February Monthly Market Update
As at end of February 2022
Russian attack on Ukraine roils markets
Geopolitical risks flared up and global equity markets tumbled after Russia invaded Ukraine, launching widespread military operations. The West swiftly responded by imposing heavy sanctions targeting government officials and companies, and more notably by barring seven Russian banks from SWIFT, a system used to facilitate international transfers between banks. The unified sanctions and subsequent commercial boycotts, potentially also including oil, will have severe impacts on Russia’s economy. The MSCI World (NZD) Index fell 5.4% and includes the negative impact of a stronger kiwi dollar, with the NZD Trade Weighted Index rising 1.8%.
Equity markets in countries with close economic ties to Russia, such as central and Eastern Europe, were brutally sold off. The Hungarian Budapest Stock Exchange Index fell 18.2%, while the worst performer in Western Europe was the Austrian ATX Index - declining 11.8%. The Russian equity market could not record a return for the full month, as a trading halt was imposed by the Russian Central Bank on 25th of February and was not lifted by month end. While the Russian MOEX Index at that point was officially down 30%, foreign listings of Russian companies fared far worse. Foreign listed Russian ETFs continued to trade, such as the iShares MSCI Russia ETF, which dropped 53.4% for the month. This also reflects the dramatic collapse of the Russian Rouble, which plunged 26.6% against the USD. Given Russia is a major energy exporter, the risk of a potential supply shock due to embargoes or further sanctions pushed oil prices higher. West Texas Intermediate crude oil rose 8.6% and briefly traded above the US$100/barrel for the first time since 2014. Energy stocks were the best performers globally, with the MSCI World Energy Index rising 4.5%.
Western allies are attempting to subdue the crisis without risking escalation directly with Russia, however, a quick and peaceful resolution at this stage seems unlikely. While investors have for some time been preoccupied with the risks of persistently high inflation, the global disruption and shockwaves caused by the Russia-Ukraine conflict are likely to exacerbate those risks further. With the unstable geopolitical backdrop occasioned by a ‘hot’ war in Ukraine involving a major nuclear superpower, investors are potentially facing a prolonged period of heightened risk aversion and volatility.
NEW ZEALAND MARKET
Meridian gains some latitude
Reporting season in New Zealand has been relatively strong with the majority of reported companies beating analyst expectations. This helped the market eke out a positive return against a macro backdrop of high inflation, tightening monetary policy, and heightened geopolitical uncertainty. The S&P/NZX 50 Index returned 0.7% in February, outperforming most global peers, second only to our trans-Tasman neighbours.
Rising interest rates have been a consistent headwind of late for yield stocks, however the utilities have been bucking the trend, with the largest four delivering positive returns, and Meridian Energy (MEL) the Index’s best performer this month returning 14.6%. MEL reported solid first half earnings and an increased dividend, but the main talking point was the renewed optimism around the future of the NZ Aluminium Smelter (NZAS), which consumes 13% of NZ’s electricity. Other notable performers were the a2 Milk Company (ATM: +6.6%) and Fletcher Building (FBU: +4.0%) in the wake of reporting their half year results. ATM announced a better-than-expected profit and managed to reduce accumulated inventory, while FBU increased its interim dividend by 50%. Both companies noted an improved outlook for the coming year.
On the negative side, the local high growth sector was caught up in the global sell-off of companies with a large part of their valuations premised on significant future growth. The Index’s bottom four performers this month, biotech, Pacific Edge, fintechs Pushpay & NZX, and transport technology company Eroad were all casualties of this shift in sentiment.
One-way tickets round trip
Whilst the S&P/ASX 200 Index returned 2.1%, reversing some of the prior month’s losses, under the surface, the shift in time preference continued. Australia’s market structure made it a case study for this rotation from companies with anticipated long-dated cash flows into those with stronger near-term cash generation.
Nine out of the eleven 20%+ gains this month came from companies exposed to rising hard and soft commodity prices. Similarly, nine out of the eleven 20%+ losses were in ‘story’ stocks – lofty valuations premised on rapid growth into large addressable markets. Eight of this latter group are also loss-making. Relative sector performance broadly reflected the same shift, with Energy (+8.6%) and Consumer Staples (+5.6%) the strongest; and IT (-6.6%) and Consumer Discretionary (-5.0%) the weakest.
Among individual companies, contractor CIMIC was the month’s best performer, returning 34.8% after majority shareholder HOCHTIEF bid for the remainder of the company. Following up were metal recycler SIMS (+28.1%) and precious metals miner Silver Lake (+25.9%). On the flipside, software developer Life360 (-36.6%), and battery technology hopeful Novonix (-32.9%) were the worst performers.
In macroeconomic news, the unemployment rate remained at 4.2%, building approval activity accelerated, and January retail sales rebounded from negative in December. With the last inflation read at 3.5%, the RBA updated its forecasts and now sees inflation peaking at 3.75% in the June quarter of 2022. On the policy front, the only movement was the cessation of bond purchasing, capping off A$360b of purchases since the start of the length. With Australia’s cash rate held at 0.10%, the differential versus New Zealand is now at its widest since 2015.
Keep calm and carry on
For a short month, February certainly packed a punch for investors locally and abroad. Global bond markets ended in the red, yet New Zealand bonds managed to outperform. A higher starting point for NZ yields contributed to the better relative performance. The S&P/NZX Government Bond Index returned -0.9% for the month, outperforming both Australian and Global Government Bond Indices which closed at -1.4% and -1.5% respectively. Like January, corporate bond indices were also negative, but to a smaller degree with the S&P/ NZX Investment Grade Corporate Bond Index down 0.7% and the Australian Corporate Bond Index ending down 1.3%.
On the international front, global corporate bond spreads moved wider as lower liquidity and central bank policy expectations continued to weigh on risk appetite. Coupled with the higher rates backdrop, increasing market uncertainty was driven by rising tensions between Russia and the Ukraine which escalated over the month. Volatility reached a climax as Putin opted for military incursion over negotiation to further Russia’s strategic interests. The side-effects of this conflict are certain to have ramifications for global inflation with commodity prices spiking higher towards the end of the month. Longer term implications could also be significant depending on the duration of sanctions against Russia and any potential response, for example restricting gas supply into Europe.
Turning to the domestic front, news flow was dominated by the inevitable Omicron surge, which struck a blow to overall confidence. In particular, the ANZ Business Outlook indicated widespread anxiety around the impacts of Omicron and elevated cost expectations retracing towards levels seen at the onset of the pandemic. New Zealand house prices showed signs of plateauing, albeit off a very high base. Price declines in the December and January data suggest housing has peaked, with lagging impacts from higher mortgage rates and increased inventory still to come. Lastly, the RBNZ decided on a 0.25% rate hike to push the OCR to 1% at its February meeting. The accompanying policy statement laid out revised forecasts which incorporate higher interest rates, and the OCR trajectory it will take to get inflation trending back towards 2%. Despite the mounting Covid numbers, Governor Orr seemed optimistic that visibility for the economy had improved and the rate hiking cycle would have the desired effects on high inflation. Notwithstanding, the current state of global affairs will undoubtedly add complexity to policy decisions going forward.