When will I make back what I lost in 2022?
2022 has seen considerable drops in both fixed-income and equities, although the setbacks have been particularly dramatic in the world of bonds.
Indeed, after many years of minimal and often negative returns, we have seen the greatest series of rate increases by central banks in the last forty years in response to the rapid rise in inflation. The Fed raised interest rates from 0.125% to 4.25% in less than a year, and the European Central Bank from -0.5% to 2%.
As a result of this monetary tightening process, we have seen the worst performance in fixed-income assets in decades, with a global bond index such as Bloomberg's Global Aggregate falling by 15.59% as of December 23.
While this bearish trend in fixed-income assets has been extraordinary, it is also unusual for it to have been accompanied by an even worse stock market performance, as manifested by the 19.69% decline in the MSCI World index with just a few trading days left in the year. And we say unusual because bonds often provide a safe haven for stock market drops, something that has not happened in 2022. The result has been one of the worst returns in the last hundred years for a classic medium-risk portfolio.
Given the seriousness of the aggregate losses, one might well ask when they will be fully erased and if some of the losses from 2022 will be made up in 2023. The good news is that the answer to this last question is positive, and we expect to recover part of the aggregate losses in this coming year. However, it is not realistic to expect a full recovery.
Let's take it one step at a time. Equities have dropped nearly 20% many times in the past, and it's common for them to fully recover in the next year. This happened in 1991, 2003 and 2009. 2019 more than made up for the 10% drop in the previous year. By contrast, the world index fell three years in a row, in 2000, 2001 and 2002, before powering back in 2003. This means that stock markets have the potential to recover from falls like those suffered in 2022 in a relatively short time, assuming that the factors that caused the stock markets to drop disappear.
Unfortunately, the expectation for a total recovery is gloomier in the world of debt, despite our conviction that 2023 will be a very good year for fixed-income markets. The extraordinary correction seen in 2022 makes it very difficult, if not impossible, to gain it all back in 2023. For this to happen, yields would have to go back to negative territory and undo all the gains achieved in 2022, something that is not even on our radar at this point.
On the other hand, the persistent inflation leads us to think that central banks, even if they pause their rate increases, will very likely maintain a restrictive monetary policy in 2023. This means that rates will stop rising, but they will stay high for a prolonged period of time, which will keep bond yields high. In following years, central banks will likely, once inflation is brought under control, begin a series of rate cuts, which will allow bond prices to continue recovering.
In short, although portfolios will start to recover in 2023, we will need more than one year to return to the previous highs, especially in the most conservative risk profiles.
