It should come as no surprise that the Russian invasion of Ukraine in mid-February has had a significant negative impact on markets around the world. Fears of further rises in inflation and interest rates have added to the level of strain in markets generally, with bonds and equities both in negative territory at the same time. Commodities were a significant exception, due to sharply rising energy prices in particular. Europe was especially hard hit by a major war erupting on its doorstep, but the repercussions are being felt by market participants in many ways.
Risk levels are certainly higher, and this has been characterized by a significantly greater dispersion of returns in various dimensions, a key indicator of market strain. Most sectors posted negative returns over the period but the Energy sector stood out as an exception given the impact of the previously mentioned rising energy prices.
The charts below demonstrate the dramatic dispersion in returns between the best and worst performing sectors in U.S. and Global equities. There is a difference of 40-50% between the returns of Energy stocks and Communication Services over only a 3-month period.
Such an extreme difference is unusual, as can be seen in the following charts depicting the historical differences between best and worst performing sectors. Comparable levels have only been seen twice before, around the time of the tech bubble and during the global financial crisis.
Style is another market dimension showing increased dispersion, in this case between the returns of growth and value stocks. This next chart plots the difference between the returns of the Russell 1000 Growth and Value indices. Whereas growth has dominated value for a number of years, the size of the difference in returns has increased substantially over the last two years. And although value stocks outperformed substantially in the most recent quarter, largely as a result of the outsized returns of energy stocks, it is not yet clear if value is making a sustained comeback. What is clear, however, is that the relationship between the two has certainly become more volatile.
The final example of increased dispersion we’re seeing is at the individual stock level. This last chart, taken from the Intech Equity Market Stress Monitor®, demonstrates the extent to which the dispersion between stock returns in U.S., European and global stocks has increased substantially over the last three months. This a measure of the spread between the best- and worst-performing stocks over time. A wider range of returns is often thought of as fertile ground for active management, but of course the dispersion of outcomes can also vary significantly, depending on which stocks you own during these periods.
The war in Ukraine has been the catalyst for a phase of great uncertainty in global equity markets, driven by highly volatile energy prices, fears of continuing inflation, and rising interest rates. This can be seen by extreme levels of dispersion between sector, style and individual stock returns, all of which are indicative of significant strain in the market.
Navigating market conditions such as these requires a long term-view, a disciplined approach to maintaining diversified portfolios, and a prudent approach to building in resilience to your equity allocations in order to mitigate the negative impact of unforeseen future shocks.
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Look beyond conventional narratives and risk metrics. Each quarter, Intech examines equity market stability around the world through the lens of the Intech Equity Market Stress Monitor ― a collection of five reliable metrics of market strain that can help you gain additional insight to market risk regimes.
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