The third quarter came to a relatively quiet end, with U.S. equities falling by roughly 5% during the month of September, before partially rebounding during the first half of October. The decline in equities was attributed to continued concerns over rising inflation and stretched supply chains, which continue to be problematic as we enter the crucial 4th quarter holiday shopping season. The rise in inflation expectations, and consequently, yields, led to fixed income also pulling back modestly during the third quarter. Amidst the rise in inflation expectations and slowing economic growth, the Federal Reserve has shown little willingness to curtail the rise in prices, which has helped to support risk markets to a certain extent. With the Fed continuing to buy $120 billion in bonds every month, it can be argued that this has helped to keep the rise in yields more contained than it otherwise would have been, given that inflation is at the highest level it has been in several decades.
From an economic standpoint, we continue to keep a close eye on the U.S. economy. Earlier this year, we felt that inflation may be more sticky than policymakers anticipated, and that has largely played out. Another focus point was the labor market, as many of our contacts and stakeholders have reported widespread labor shortages across industries, and this has also played out as well. One of the reasons this matters is that upwards pressure on wages can cause inflation to be more entrenched in the economy, particularly when it is combined with supply chain disruptions which cause shortages of key goods and materials. From a fiscal policy perspective, we continue to expect that another fiscal package will eventually be passed, particularly on infrastructure spending, but the exact details and size remain in flux. Later this year, or at some point during the first quarter of next year, appears like a reasonable timeframe at this juncture.
From an asset-allocation perspective, commodities have been a clear beneficiary of the current paradigm, with the entire energy complex, along with base metals and agriculture, all performing strongly. This speaks to the importance of portfolio diversification in a period of economic uncertainty, particularly when it comes amidst a period of rising prices. We continue to feel that maintaining a quality bias within equities, a short to intermediate-term duration position within fixed income, and exposure to commodities and cyclically oriented assets is warranted given the inflationary environment and the likelihood of more fiscal spending on the horizon.