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Equity Risk Monitors — November 1, 2021

Equity Risk Monitor Highlights | Week Ended October 28, 2021

  • US Energy by far the best performing sector
  • Relative riskiness of Emerging Markets vs. Developed Markets plunges
  • Asset diversification tanks in Japan

US Energy by far the best performing sector

As oil prices climbed to their highest level in seven years, US Energy became by far the best performer in 2021 among the 11 GICS sectors in the STOXX USA 900 Index. US Energy has gained 60% year-to-date, outpacing Financials—the second-best performer—by 18 percentage points. Energy companies represent only about 2.5% of the US market, but their returns made up about 6% of the 22% year-to-date gain of the STOXX USA 900. Keep in mind, however, that the recent oil price rally has had a much larger impact on the US market than the weight of the Energy sector may indicate, due to the US market’s overall sensitivity to oil prices. For more details see our blog Oil-price swings pushing your equity portfolios around? Consider using an Oil Sensitivity metric….

Energy’s risk has dropped substantially since the beginning of the year (as has the risk for all sectors and the market as a whole), but it remained the riskiest US sector. Although Energy’s contribution to the STOXX USA 900 Index’s risk was higher than the sector weight, and higher than what it was one year ago, it remained well below 5% last week, as measured by Axioma’s US medium-horizon fundamental model.

See graph from the United States Equity Risk Monitor as of 21 October  2021

Relative riskiness of Emerging Markets vs. Developed Markets plunges

The relative riskiness of Emerging vs. Developed Markets plunged over the past three weeks, as the risk of the STOXX Emerging Markets 1500 fell and the risk of the STOXX Global 1800 rose. The ratio between the short-horizon risk of the two indices dropped from a year-to-date high of 1.4 in early October to 1.1 last week.

In other words, Emerging Markets are now only about 10% riskier than their developed counterparts, well below the 20% long-term median of additional risk typically seen by Emerging Markets vs. Developed Markets, as reflected by Axioma’s Emerging Market and Worldwide short-horizon fundamental models, respectively. However, as of last Thursday, Developed Markets’ year-to-date return of 18% exceeded that of Emerging Markets, which stood at 9.5%.

The chart below does not appear in our Equity Risk Monitors, but can be provided upon request:

Asset diversification tanks in Japan

Asset diversification tanked to a 12-month low in Japan last week, bucking the trend of most other major geographies, where asset diversification recently climbed to record highs. That is, managers of Japanese equity portfolios were in the worst position to diversify their portfolios in roughly a year.

After reaching a near-term high in late August, asset diversification in the STOXX Japan 600 Index dipped below 2.7 last week, as measured by Axioma’s Japan median-horizon fundamental model. The asset diversification ratio is calculated as the weighted average asset variance for each stock in the index, divided by the total forecasted index variance, and measures the impact of correlations on total risk. In contrast, China’s diversification ratio was the highest among all regions Axioma models track closely, surpassing 7.5 last Thursday.

See graph from the Japan Equity Risk Monitor as of 21 October  2021:

For more insights and research from the Applied Research team, please click here.