“So long and good riddance to 2022”, may have been the sentiment as 2022 turned into 2023.
It certainly wasn’t a great year. War, inflation, rising interest rates, and economic bottlenecks led to poor returns in most types of assets. In fact, 2022 was unusual in the sense that shares and bonds both fell simultaneously, and by reasonably large amounts. Usually, bonds act as a safe haven when share markets fall, but not last year. As a result, a balanced portfolio (half shares, half bonds) had its worst year for nearly a century.
On the plus side, interest rates are now back to more normal levels. Rising interest rates have their own consequences, as anyone with a mortgage knows, but it does mean that fixed income investments such as bonds and term deposits all look more attractive now. And, despite the big jumps in interest rates and the fall in bond values, we didn’t see the sorts of market stresses we had with the global financial crisis of 2008. Overall, the adjustment to higher rates globally has been fairly orderly.
And what of 2023?
The silver lining in the rising interest rate ‘cloud’ is that we should now expect higher longer-term returns from most types of investments given higher cash rates and income yields. So bond funds, such as the ones in our portfolios, ought to have a reasonable 2023. Although economic growth is expected to be weak in 2023, with many economies possibly moving into mild recession, this does reduce the risk of core inflation rising higher still. Energy prices are now clearly off their peak, in part due to the good luck of a warm European winter, which will reduce headline inflation rates.
Investment research company MyFiduciary (who we use to help design our portfolios) also believe shares should be more stable with inflation being the key signal for when markets reach bottom and recover. In their view, current and forecast interest rate levels here and around the world should be sufficient to reduce inflationary pressures.
Given both long term financial history and basic investment logic, one thing we’re more confident about is that, over the medium to longer term, you get a better return from shares than from cash. Investors need this ‘premium’ to compensate for the higher level of investment risk that shares have. It follows that, with central banks now having finally done their jobs and raised rates to more normal levels, we should expect higher longer term returns from shares as well as bonds.
Even with Jacinda Ardern’s resignation, the election in October won’t really change our basic settings, regardless of which party is in government.