Market Update 2022

Market Review

May 2022

The majority of share markets were down for the month of May, due to investor concern around persistently high inflation, increasing interest rates and slowing global growth. The Australian share market fell 2.6% over the month with the technology and real estate sectors falling the most (down 8.7% and 8.9% respectively). International share markets were also down by 0.8% (unhedged in Australian dollars), whilst global property shares performed poorly, returning -5.6%.

Despite the recent share market volatility, the one-year returns remain positive for shares in Australia and globally. Australian bond yields continued to move higher over the month due to elevated inflation expectations. This resulted in negative returns for bonds, with the Australian bond market down 0.9% for the month.

Asset class performance as of 31 May 20221

Asset class 1 month
(%)
3 months
(%)
1 year
(%)
5 year
(% p.a.)
10 year
(% p.a.)
Australian shares
(S&P/ASX 200 Accumulation Index)
-2.6% 3.2% 4.8% 7.8% 8.8%
International shares
(MSCI World ex-Australia - unhedged in $A)
-0.8% -4.8% 2.6% 11.4% 10.6%
Global property
(FTSE EPRA/NAREIT Developed Rental Index unhedged in $A)
-5.6% -4.5% 4.7% 2.8% 6.1%
Fixed income
(Bloomberg AusBond Composite Index)
-0.9% -6.0% -8.5% -1.8% 1.0%
Cash
(Bloomberg AusBond Bank Bill Index)
0.03% 0.02% 0.05% 0.36% 0.97%

Please note: past performance should not be considered an indication of future performance.

US Fed raises interest rates to combat inflation

Shares remained weak in May, mostly due to the renewed risk of slowing economic growth and central banks continuing to raise interest rates to combat a growing inflation problem. The latest data shows that US inflation slowed less than expected during April falling from an annual rate of 8.5% in March to 8.3% in April. This raises concern among investors that the US Federal Reserve (the Fed) could trigger an economic recession by increasing interest rates too aggressively. The probability of a recession occurring has increased over recent months and share markets have reacted to this heightened concern.

The Fed raised the official interest rate by 0.50% to 0.75% in May. This was widely anticipated, and it is expected that the Fed will continue to increase interest rates over the next few months in an attempt to lower inflation, but it will take some time to determine if this strategy is effective.

Europe is hit with high inflation

In Europe, the annual inflation rate is also very high at 8.1% owing to soaring food and energy costs due to the Ukraine-Russia conflict. The European Central Bank (ECB) is expected to start raising interest rates in the September quarter to tackle inflation, but they will need to be careful not to tip the economy into recession given the current geopolitical issues.

RBA raises rates for the first time since 2010

Similarly, Australia’s higher than expected March quarter inflation data triggered the RBA to raise interest rates by 0.25% to 0.35% in May, which was the first rate increase since 2010. Subsequently, in June the RBA raised interest rates by a further 0.50% to 0.85%. Interest rates are expected to continue to move higher over the remainder of 2022 as the RBA tries to bring inflation under control. Higher interest rate expectations are placing pressure on the Australian property market, which saw a decline in house prices across the major capitals in May.

Higher interest rates have translated into high government bond yields as shown in the chart below. The 10 year bond yields in Australia and the US reached over 3% in May, but this looks to have peaked for the near term. Fixed income markets have suffered poor returns over the financial year to date due to the rise in bond yields over the past year. Also, these higher bond yields are a signal that banks will be increasing their mortgage rates over the coming months.

 

Australia’s inflation expected to remain elevated

With the continued conflict in the Ukraine and lockdowns in China forcing the price of energy and imported goods to rise dramatically, it is expected that inflation in Australia will remain elevated for the remainder of 2022. The blocking of Russian oil and gas in Europe will likely place further strain on European energy costs driving prices upwards, whilst agriculture commodities produced in Russia and the Ukraine have also steepened and led to increases in food prices, which remains one of the key drivers of inflation.

Covid-19 outbreaks in China have reduced productivity and the cities locked down over the past two months have added further strain to the prolonged supply chain issues. However, the number of new Covid-19 cases in China has declined over the past few weeks and government restrictions are slowly being relaxed, which is a positive sign that things are beginning to change for the better.

Summary

Share markets are expected to remain volatile over the coming months as the Russia-Ukraine conflict and lockdowns in China continue to impact supply chains across the globe. Fortunately, the Australian market is less impacted than other global markets given our natural resources and relatively strong economy. This has been reflected in the better performance of Australian shares compared to global shares over the past three months.

Central bank interest rate decisions and inflation concerns will continue to be the key market drivers over the coming months and a cautious approach is still warranted. However, keeping to your long-term strategy and maintaining a diverse portfolio remains the recommended strategy to smooth out the ups and downs of investment markets. We look forward to updating you on further developments next month.


1 Bloomberg Finance L.P.  Please note, where past performance information is provided this should not be considered an indication of future performance.
2 Bloomberg Finance L.P., EISS Super.