2022: A very unusual year

Last year was a nightmare best forgotten. This year started on a strong note for investors, but private markets are still due for a further shakeout

While investors in India have heard how tough 2022 was for global investors, most do not fully appreciate the extent of global wealth destruction. India, after all, had its seventh year of positive equity market returns in local currency terms (though it had negative 8.6 per cent returns in dollar terms). Indian markets are also not that far from their all-time highs. Most investors in
Indian stocks are still in the money as we speak.

However, for global investors, 2022 was a nightmare best forgotten. Just for context, global equities, bonds and crypto assets combined have seen a drawdown of $26 trillion from their peak. This is 26 per cent of the global gross domestic product or GDP, and the bulk of this decline took place in 2022. Tesla, Bitcoin, Meta and the ARKK innovation fund were all down about 65 per cent, with unprofitable technology companies down even more. It was such a tough year that the only sector actually up even 5 per cent for the year in the US was energy (65 per cent gain). Every other major sector was down for the year.

We have seen these types of wipeouts before. Following the global financial crisis in 2008 and the dot-com bust in 2000, we saw similar levels of declines for the financials and technology stocks. However, what made 2022 unique was the simultaneous decline in both bond and equity markets. This is the only year ever in which the S&P 500 and 10-year US treasuries both delivered negative returns of over 10 per cent (total return terms). This has never happened before. In the two most recent episodes of the S&P 500 declining by more than 20 per cent, 2002 and 2008, bonds delivered positive returns of more than 15 per cent in each year. They balanced the equity losses and provided liquidity and gains for rebalancing. Bonds have been in a 30-year bull market and have helped smoothen portfolio returns.

The US 10-year treasury bonds had their worst performance since 1788, declining more than 15 per cent. European sovereign bonds did even worse, with gilts declining by more than 30 per cent. This was simply reflecting the fact that investors were caught complacent on inflation, believing the transitory argument for too long. At the beginning of 2022, Fed fund futures were predicting a Fed funds rate of 1 per cent by June 2023, this number today is 5 per cent, highlighting how much expectations have changed. The yields for 10-year bonds had their biggest absolute rise ever, surging by over 200 basis points in calendar 2022. Long duration assets, be they bonds or growth equities, got clobbered. With rising real yields, the markets’ willingness to value profit-less innovation was tested. The Austrian 100-year bond issued in 2020 was down more than 60 per cent from its peak. Another consequence of rising yields has been the extinction of negative yielding debt. In 2021, we had almost $18 trillion worth of debt with negative yields. Even at the start of 2022, this number was in excess of $8 trillion, today it is zero. It is unlikely that we will ever see this phenomenon at this scale again. This was also the year in which the classic 60/40 portfolio was ineffective, delivering double-digit negative returns for the first time. Truly, a once in a lifetime wipeout in the fixed-income markets, which will have longer-term consequences on asset allocation and risk appetite.

Things were not much better for equities. This was the fourth worst performance for the S&P 500 since World War II, after the GFC, (2008), the dot-com bust (2002), and the oil shock of 1973/74. This was not a trivial correction.

Value stocks were down only 5 per cent, compared to a 30 per cent decline for growth stocks, delivering a relative outperformance of 25 per cent, the biggest positive value delta since the dot-com bust of 2000. At that time, this marked the beginning of the revival of value strategies, and they continued to outperform in five out of the six subsequent years. Many allocators are betting that value will see a similar revival in the coming years.

One keeps getting asked the question, why foreign capital continues to sell and exit India, with selling continuing unabated in 2023 as well? I think most people do not realise the damage global investors have sustained in their portfolios in 2022. India has had a very good run compared to most other emerging markets (EMs) in the last few years. India’s valuations remain at an extreme premium. Most global allocators have a need for liquidity as distributions from their private funds have slowed down with declining capital markets activity and new fund commitments furiously drawing down capital to capitalise on falling valuations. In times of need, you will sell whatever is expensive and saleable. India fits both criteria.

Illustration: Binay Sinha

You also have the dynamic of China re-opening and its markets surging. Caught underweight, most investors are scrambling to catch up and neutralise their underweights. They cannot afford another year of China being the cause of their underperformance. India is a funding source to raise China weights.

Last year also marked the end of an era. The biggest combined monetary and fiscal stimulus experiment in history (except wartime) has come to an end globally. All investors have to adjust to a normalisation in policy settings. It will change market leadership and we are currently in the midst of a valuation adjustment. We have to go back to first principles on why and what you will be willing to pay for financial assets.

 2023 has started on a strong note, led by China, Europe and North Asia. Let’s hope the momentum can be maintained. However, I doubt that we have seen the back of enhanced volatility. Price adjustments are still incomplete in most private markets globally, more so than in the public markets where the brutal correction in the erstwhile high flyers has taken us much closer to the end of their valuation correction. In my opinion, private markets are still due for a further shakeout. The bid offer spread is still quite wide in new funding rounds, especially in late stage transactions.

The writer is with Amansa Capital