Indexology^® Blog

With the first half of 2022 in the books, commentators have noted that this year’s -20.0% total return for the S&P 500® is the worst January-June result in more than 50 years. Painful as the first six months were, what might they tell us about the rest of the year?
History gives us both bad news and good news. Bad news first: the correlation between the past six months’ return and the next six months’ return is vanishingly small. Predictions are problematic. Exhibit 1 illustrates this for the S&P 500; results for the S&P MidCap 400® and S&P SmallCap 600® are comparable. (The data here encompass not just the first six months of the year, but every six-month period from 1995 onward.)

In general, knowing how well or poorly an index did in the past six months tells you nothing about how well or poorly it will do over the next six months.

But…with a little legerdemain, we can tease out some good news as well. The fact that returns have been above average, or below average, does not help us forecast what returns will be going forward. This means that regardless of what has already happened, the next six months’ return is best regarded as a random draw from the same distribution that generated the last six months’ return.

We can use this insight by sorting the data points in Exhibit 1 into deciles based on the last six months’ performance. Within each decile, we can measure the average monthly performance in the last six months and the next six months. The difference between the next six months and the last six months represents the improvement (or worsening) of performance by decile and is graphed in Exhibit 2.

On one level, Exhibit 2 is just a demonstration of mean reversion in action. But it also has a practical implication: if historical returns have been especially good, future returns are likely to be worse, and if historical returns have been especially bad, future returns are likely to be better. At the end of June 2022, historical results across the capitalization range were indeed especially bad, as Exhibit 3 illustrates.

There are no guarantees, but history tells us that when returns are as bad as the first half of 2022’s have been, improvement has been much more frequent than continued decline. When returns have been especially bad, patience tends to be especially valuable.

The United Nations estimates a 70% increase in food supply is needed to meet a projected 2050 global population of 9.6 billion. With 70% of its agricultural production exported today, Australia could play an integral role in meeting increased demand from the global supply chain. Join Nadine Blayney of Ausbiz, Daphne van der Oord of S&P DJI, and Ken Chapman from ASX for a closer look at how the broad S&P/ASX Agribusiness Index could help market participants track and access growth in Australia’s agribusiness sector.

Explore the Australian Market with Confidence www.spglobal.com/spdji/australia

The S&P 500^® posted its worst first-half performance since 1970,¹ as inflation concerns, Fed rate hikes and slowing economic growth have weighed on markets. Mega caps were hit particularly hard, with the S&P 500 Top 50 posting a loss of 22%, underperforming the S&P 500 by 2%. Exhibit 1 shows that Information Technology was the biggest sectoral detractor from the S&P 500’s performance, followed by Consumer Discretionary and Communication Services. Energy was the sole positive contributor and the only sector to post a gain YTD, up 32%.

This market environment, characterized by higher volatility and wide disparity among sectoral performance, has positive implications for skillful sector allocators. To understand why, it is important to remember that volatility is linked to dispersion, which measures the spread among returns of an index’s components. When volatility goes up, dispersion also tends to rise, as the gap between the winners and losers widens. The greater the spread, the greater the opportunity to add value. Dispersion can be measured at various levels of granularity, such as among stocks or sectors.

Total market dispersion can be decomposed into the average dispersion within each sector and the dispersion across sectors. The ratio of cross-sector effects to total S&P 500 dispersion has remained above average, which implies that the rewards for skillful sector picks have been increasing (see Exhibit 2).

A natural consequence of the weakness among mega caps was a tailwind for Equal Weight because of its small-cap bias, with the index outperforming the S&P 500 by 3% so far this year. Exhibit 3’s YTD performance attribution of the S&P 500 Equal Weight Index illustrates that the underweight to IT and Communication Services were key contributors to Equal Weight’s outperformance. 

Another consequence of the outperformance of smaller caps is that most factor indices, which generally have a small-cap tilt, outperformed the S&P 500 (see Exhibit 4). Low Volatility and Dividend strategies took the lead, as factor performance was importantly influenced by the extraordinary outperformance of Value versus Growth.

The comeback of smaller caps and Equal Weight might have positive implications for active managers, as their portfolios are often closer to equal than cap weighted.  Exhibit 5 plots the underperformance of large-cap funds compared to the relative performance of the S&P 500 Equal Weight Index versus the S&P 500, as a proxy measure for smaller-cap outperformance. We notice that two out of the three years when most active large-cap managers outperformed (2005, 2007 and 2009) coincided with Equal Weight’s outperformance.

The current challenging environment, characterized by high inflation, concerns about potential Fed rate hikes and weak economic fundamentals, is reminiscent of 1970. That was the last time we experienced this level of underperformance for the first half of the year, which was subsequently followed by a strong turnaround in the second half of the year—an ultimate indicator that past performance is not indicative of future results. 

¹ Based on S&P 500 Price Return.

While electric vehicles have been attractive to environmentally conscious consumers for several decades, in recent years, they have come into their own as innovation has made them more accessible and practical. With the current prices at the pump, now more than ever, consumers are turning to electric vehicles as a greener and more economical option. As Exhibit 1 shows, sales of “plug-in” electric vehicles are expected to grow significantly through 2026. As demand for electric vehicles and other technologies strengthens, so does the need for rechargeable batteries.

Booming Battery Metals Markets

Considering the current and anticipated demand for rechargeable batteries, markets for their input commodities have been booming. For market participants seeking to participate in this trend, S&P Dow Jones Indices (S&P DJI) recently launched the S&P Global Core Battery Metals Index. The index seeks to track global companies engaged in producing and mining three core battery metals: cobalt, lithium and nickel.

Partnership with S&P Global Commodity Insights

To develop this index, S&P DJI partnered with S&P Global Commodity Insights (S&P GCI). Given their expertise in metals and mining, S&P GCI played a significant role in defining the rules of the index.

They identified cobalt, lithium and nickel as the three core battery metals that the index would track via producing companies. These metals were selected since they are typically the key metals used in active cathode materials deployed in high-performance batteries.

To accurately capture the battery metals’ production values, the index sources data from S&P GCI’s Metals and Mining dataset. Provided via the S&P Capital IQ Pro platform, this industry-leading dataset includes over 4,500 mining companies and over 37,000 mining properties.

Methodology Overview

To be eligible for inclusion, companies must be a member of the S&P Global BMI. Additionally, companies must have been a producer of either cobalt, lithium or nickel for the previous year (as measured by S&P GCI’s Metals and Mining Dataset). All eligible companies are included in the index.

Qualifying companies are weighted proportionate to their production-value-to-revenue ratio. To calculate this ratio, the sum of the production value across the three battery metals is divided by the revenue from the previous year (in USD). Constituents are then ranked in ascending order so that the companies with the highest proportion of battery metal production are given the largest rank. Each company’s final weight is calculated by its rank divided by the sum of all ranks (subject to liquidity capping). In this way, the index overweights companies where the production of these core battery metals represents a significant portion of their business.

Statistical Analysis

The first value date for the S&P Global Core Battery Metals Index was set as July 21, 2017, when enough companies were represented in the dataset. Since then, the index has earned an annualized return of 23.25%, outperforming its benchmark by almost 16.5%. Most of this outperformance was achieved in the last couple of years on the back of the booming metals markets.

Let’s now examine the country breakdown for the S&P Global Core Battery Metals Index. As one might expect, the index weighs heavily toward Australia and China, the two top-producing countries for battery raw materials. However, the index has a strong representation across over a dozen counties (see Exhibit 4).

In two subsequent blogs, we will further explore the methodological details and index characteristics. In fact, our colleagues at S&P GCI will author the next blog, focusing on the Metals and Mining dataset that the index leverages to source battery metals’ production values. Stay tuned!

The prospect of higher interest rates, fears of a prolonged global economic slowdown and a strong U.S. dollar put the brakes on commodities prices in June. The S&P GSCI, the broad commodities benchmark, ended the month down 7.6%, taking YTD performance to 35.8%, still the best first half performance since 2008.

The deteriorating economic outlook trumped fears regarding the impact of sanctions on Russian oil supplies in June. The S&P GSCI Petroleum fell 4.6% over the month. However, the biggest correction in energy prices in June came in the form of a 33.3% decline in S&P GSCI Natural Gas. The fall in U.S. natural gas prices in June belied what remains a tight global gas market. Russia continued to severely limit gas supplies to Europe and various governments across Europe are intervening in the market by way of direct payments to households, financial support to failing utilities and orders to replenish storage ahead of winter.

One bright spot in the commodities markets in June was EU carbon emissions, with the S&P GSCI Carbon Emission Allowances (EUA) rallying 7.3%. Strength in the so-called clean dark spread, a measure of the profitability of coal-fired electricity generation incorporating the cost of offsetting production with carbon credits, has seen more coal being used in the power generation mix and hence more EUAs purchased for compliance. From a regulatory standpoint, there has been significant debate regarding possible reforms to carbon price control mechanisms in Europe, which may affect price discovery over the medium term.

Industrial metals had the worst first half of the year since the Global Financial Crisis. The S&P GSCI Industrial Metals fell 13.8% over the month and was down 12.1% YTD. Prices have plummeted, as worries about a slowdown in industrial activity across major economies have dovetailed, with slumping demand in China. Copper, the great economic bellwether, fell 12.4% over the month and ended the first half of the year down 14.7%.

Against a backdrop of aggressive central bank policy action and a strong U.S. dollar, gold has been unable to turn a trick so far in 2022, while silver has been battered by fears of weakening industrial demand. After some strength earlier in the year, the S&P GSCI Precious Metals ended the first half of the year down 2.7%.

By the end of June, S&P GSCI Agriculture had fallen 18.0%, since making a multi-year high on May 17, 2022. Most of the decline was attributed to wheat and cotton. Wheat prices have been pressured by the expanding harvest of winter wheat in the Northern Hemisphere and the prospect of getting grain shipped out of the Black Sea region improving. Like other demand-sensitive commodities, the risk of a looming recession weighed heavily on the cotton market.

A recovery in feeder cattle prices, buoyed by the correction in feed prices, helped the S&P GSCI Livestock eke out a modest gain in June.