Indexology^® Blog

When the market declines by nearly 24%, as the S&P 500^® did in the first nine months of 2022, investors typically lick their wounds and wonder what comes next. Spoiler alert: I don’t know. But there are ample historical data to explore amidst our befuddlement.

First, the bad news: Exhibit 1 shows that there is very little relationship between trailing returns and future returns. These data comprise every nine-month period since 1971, not just the January-September intervals; the exact correlation between the last nine months’ returns and the next nine months’ returns is 0.006. A statistician’s best guess of the next nine months’ returns would simply reflect the median return of the series, ignoring whatever the last nine months’ returns had actually been.

But there’s good news hidden within Exhibit 1. The market has no memory; the best guess of future returns does not depend on the immediate past.

Exhibit 2 shows this a bit more clearly. This exhibit groups our observations into deciles, based on trailing returns. The bottom decile thus contains the worst 10% of nine-month returns (including, we need hardly add, the first nine months of 2022). Over all nine-month periods in the last 50 years, the median return was 9.5%. When historical returns were in the bottom decile, the median return in the next nine months was 10.8%, a not-inconsiderable improvement over the global median.

Exhibit 3 gives us more detail on results after a bottom-decile experience; the median return in the subsequent 12 months is 16.6%, well above the unconditional median (14.0%).

Although these results are drawn from a full 50 years of data, we can draw similar conclusions if we limit ourselves to periods of relatively high inflation. The U.S. Consumer Price Index (CPI) rose above 6.0% in 1973 and remained elevated until 1982; after 1982, the CPI remained below 6.0% until this year. If we look only at those high inflation years, we see similar results, as Exhibit 4 illustrates.

Nothing in these data is certain, of course. After a bottom decile performance, the market might decline further, or might not rebound as much as is typical. Uncertainty is the investor’s constant companion, but historical data can at least give us some clues to the future. Bad returns occasionally come. But the fact that they have come in the last nine months does not make it more likely that they will come in the next nine months. Long-term investors should bear the long-term results in mind.

During the Diwali festival in India, retail gold demand tends to pick up, offering a floor to global gold prices or the potential impetus to push prices seasonally higher. Several years of lower-than-expected gold demand suggest that there is room for an uptick in demand in Q4 2022 for India’s second-largest import by value. India plays a crucial role in the gold market, with global annual imports of gold moving back and forth between India and China as the biggest net importer.

Gold prices have moved lower over the course of 2022, as many central banks across the globe have embarked on rate hiking regimes in order to get control of inflation. Gold in India hit another new low, as the U.S. dollar continued to make new highs on the back of the U.S. Fed announcing one of the most aggressive rate hiking campaigns in decades. The Reserve Bank of India (RBI) also increased interest rates, but not as aggressively in comparison, given that inflation has risen but is not as high as in the U.S. Expectations are for the RBI to hike less in coming meetings, while the U.S. Fed could continue to increase rates at large clips, which could lead to further weakness in the short-term gold price, given it is historically negative correlation to the U.S. dollar.

There are potential tailwinds in the short term for gold outside of the demand from the Diwali festival. Gold has been known as an inflation hedge due to its use as a store of value. Recently, it has not held up to that claim; inflation has soared higher, while gold prices have lagged other commodities. If we look back historically to other high inflation periods in the 1970s and mid-2000s, gold tended to lag other commodities prices higher and usually did so in the second half of these high inflation time periods. Will this time echo those prior periods? It’s hard to say with other potential new stores of value present that were not available in past high inflation environments, like cryptocurrencies.

S&P Dow Jones Indices produces numerous gold-related indices, as well as multi-asset indices using gold futures as constituents. Check out our website for more information on our gold index offerings.

This article was first published in The Economic Times on Oct. 8, 2022

Year-to-date, global stock and bond market returns have been mired in red. The picture has been consistent across the various bond and equity sectors, except for Energy and Utilities stocks, posting YTD returns of 48.8% and 5.5%, respectively. Before this Energy rally, the iBoxx MSCI ESG Advanced USD Liquid Investment Grade (IG) Index was launched to reflect the performance of U.S. dollar-denominated IG corporate debt issued by companies that have an above-average environmental, social, and governance (ESG) rating compared to peers. The Oil & Gas sectors are excluded from the index, instead seeking exposure to companies that have a higher ESG rating (as measured by MSCI ESG research data). Companies involved in business controversies and UNGC global norms violations are not included.

The iBoxx MSCI ESG Advanced USD Liquid IG Index had a YTD return of -15.66% versus the benchmark’s YTD return of -16.06% (see Exhibit 2). Compared with the benchmark, there was 2.82% underweight in bonds with over 20 years to maturity (YTM), as well as 2.16% and 1.30% overweight in bonds with 1-5 and 5-10 YTM, respectively. As a result, the ESG index had lower duration and convexity compared with the benchmark.

The ESG index underweighted lower-rated bonds (BBB) by 6.94%. The index composition has led to lower yield and coupon rate for the ESG index, at 4.98% and 3.52%, respectively.

Exhibit 4 shows a comparison of index performance for the past five years (rebased to 100). The iBoxx MSCI ESG Advanced USD Liquid IG Index has performed comparable to the benchmark in terms of total return, despite missing the entire Energy sector, which accounted for 7.88% of the benchmark as of Aug. 31, 2022. Thus, the similar performance can be attributed to index construction, namely the additional ESG business activity screens and higher rated, best-in-class companies measured by their ESG rating. On a YTD basis, the iBoxx MSCI ESG Advanced USD Liquid IG Index has provided a consistent risk/return profile compared with the benchmark.

ESG has tremendous opportunity for growth in the global bond market that reached USD 126.9 trillion in 2021.¹ The U.S., the most liquid market in the world, was responsible for USD 49.7 trillion (38.7%) of global bond issuance. The ESG bond market has grown from less than USD 1 trillion in 2017 to over USD 2.1 trillion in 2022.² The ESG market is estimated to reach USD 3.5 trillion by the end of 2025 based on the growth rate of the iBoxx MSCI ESG Advanced USD Liquid IG Index.³ This exponential growth is fueled by regulatory movement toward a greener and more sustainable economy in the U.S. and the EU. The Federal Reserve is considering the implementation of systemic climate risk (CRISK)⁴ bank stress tests in 2023, and the SEC has opened consultations for index providers to disclose data on ESG-labeled products.⁵ The EU Taxonomy requirements will push companies to further improve their ESG credentials and align their business activities with at least one of the six objectives for a more sustainable future (only two of the six EU objectives are mapping to company sectors at this time). Many other regulations, such as SFDR Articles 8 and 9, will push index providers and asset managers to be even more selective of the companies included in the funds.

In the U.S., there are headwinds in the ESG market. States such as Florida and Texas banned ESG-labeled products from the state pension funds. A debate emerged along political lines, which trickled down into the financial industry regarding the performance and validity of ESG-labeled products. This brief analysis of the iBoxx MSCI ESG Advanced Liquid IG Index shows that, despite market turbulence, well-constructed ESG products remain as competitive as the broad market.

¹ Capital Markets Fact Book 2022, July 2022, SIFMA

² ESG bond market measured by the iBoxx MSCI ESG Advanced USD Liquid IG Index.

³ ESG bond market is estimated based on the growth rate of the iBoxx MSCI ESG Advanced USD Liquid IG Index from Jan. 31, 2018, (historical back-tested data) to Aug. 31, 2025.

⁴ Jung, H., Engle, R., Berner, R., Climate Stress Testing, September 2021, Federal Reserve Bank of New York Staff Reports, no. 977 https://www.newyorkfed.org/medialibrary/media/research/staff_reports/sr977.pdf

⁵ Securities and Exchange Commission, 17 CFR Parts 270 and 275, https://www.sec.gov/rules/other/2022/ia-6050.pdf

As reported in S&P DJI’s Climate and ESG Index Dashboard, climate indices can include both absolute and benchmark-relative goals. Absolute goals could include, for example, a certain target level of weighted average emissions among index constituents, while a relative goal might insist on an improvement in comparison to a benchmark such as the S&P 500^®. The cost in terms of active share and tracking error for a climate index achieving these goals can have a direct dependency on the changes that take place in the benchmark itself.

For example, if there is an overall reduction in carbon emissions at the benchmark level, a related climate index might more easily meet its absolute carbon goals. It may, however, become more difficult to achieve relative goals, as the opportunity set for improvement narrows.

The S&P 500 offers a case study. Exhibit 1 shows the historical level of the index’s weighted average carbon intensity (WACI), as measured on a 12-month trailing basis since 2007. The series has had a downward slope, decarbonizing by a cumulative 39% in the past 15 years.

A closer look at the notoriously carbon-intensive Energy sector provides additional color on sources of the decline shown in Exhibit 1. Exhibit 2a shows the historical change in WACI for the S&P 500 Energy and the sector’s total weight in the S&P 500. Global energy demand fell by 4% in 2020 due to the COVID-19 pandemic,¹ leading to a reduction in energy-related emissions of 6.2% (from 2019 levels). However, global energy demand increased in 2021, more than offsetting the earlier contraction and pushing the S&P 500 Energy WACI back above its 2019 levels.

Exhibit 2a also illustrates the significant decline in the weight of the Energy sector in the S&P 500 over the past 15 years, from 10.9% in 2007 to only 2.7% at the end of 2021. As a result, there was a consistent, material drop in the aggregate contribution to the overall S&P 500 WACI from the Energy sector (see Exhibit 2b).

Consider the S&P 500 Net Zero 2050 Paris-Aligned ESG Index, whose methodology incorporates an absolute target of self-decarbonization by 7% annually, and a benchmark-relative target of a 50% reduction in index-weighted WACI each quarterly index rebalance (relative to the S&P 500). The first target is likely to be relatively easier to maintain in years when the S&P 500 observes a 7% or more decarbonization itself, especially if such reduction is broadly echoed across all constituents. However, in years when the S&P 500 fails to decarbonize by 7% or more, the climate index may be required to increase its active share to hit its annual decarbonization target, with the consequence of higher expected tracking error after the rebalance.

Exhibit 3 shows the annual change in the S&P 500 WACI over the same period studied in Exhibit 1. In only 5 of the 14 years did the benchmark decarbonize by 7% or more, while in 6 of the 14 years, benchmark carbon intensity actually increased.

Such examples highlight the importance of the rate of benchmark self-decarbonization when thinking about the prospects for the relative performance of climate indices and the potential drivers of change. A detailed look at the S&P DJI’s suite of ESG indices’ benchmark-relative improvements in climate metrics is now offered on a quarterly basis via our newly launched Climate & ESG Index Dashboard.

Register here to receive quarterly insights and performance attributions for our range of flagship S&P ESG and Climate Indices.

¹ Global Energy Review 2021: https://iea.blob.core.windows.net/assets/d0031107-401d-4a2f-a48b-9eed19457335/GlobalEnergyReview2021.pdf

Each time SPIVA^® results are released, we are naturally asked to explain why a certain portion of active managers underperformed in any given fund category. Sometimes, management strategies and market moves defy simple explanations, but at other times an explanation can be plain as day. For actively managed equity funds in Canada, a recent turn to outperformance seems to be attributable to one single, simple and highly creditable example of stock selection.

For context, as of June 30, 2022, 43% of active Canadian equity funds underperformed over the previous 6- and 12-month periods; the best 12-month result since 2013. As shown in Exhibit 1, we find that one large-cap stock alone contributed nearly half (-4.4%) of the S&P/TSX Composite Index’s 9.9% H1 2022 decline.

The culprit was online retailer Shopify, which declined by 76% in the first half of 2022. Shopify’s rise and fall was unusually rapid, surging from a 1% weight in the S&P/TSX Composite Index to 8%—then becoming the largest issue in the index—in just two years ending December 2021. It then fell to a position outside the top 10 in just 6 months. As shown in Exhibit 2, other large weights in the S&P/TSX Composite Index have been relatively stable over time: the exact same names that comprised the top five in June 2017 were again the top five in June 2022.

Actively managed Canadian equity funds might have been forgiven for hopping on board Shopify’s rise and then consequently suffering during its downturn (they would not have been alone). However, previous experiences with the infamously precipitous rise and falls in market cap for Nortel and Blackberry-maker RIM may have taught them a valuable lesson. Exhibit 3 shows that Canadian market participants owned an average of 30% of the other largest constituents’ shares from 2019 through 2021, but Shopify was relatively under-owned, with less than 10% of its shares held by Canadians.

A judicious reluctance to join in on the exuberance over a single internet-related security may also explain the higher rates of active fund underperformance in Canada observed in during the later stages of Shopify’s ascent.¹ Of course, its smaller market weight today means that there is a less material opportunity to benefit from the exact same trick in the remainder of 2022.

¹ Our SPIVA Canada Year-End 2021 Scorecard reported 89% of actively managed Canadian Equity funds underperformed the S&P/TSX Composite Index over the three years ending Dec. 31, 2021.