Q3 2023 Putnam Retirement Advantage Funds Q&A
- All Retirement Advantage vintages delivered negative performance in the quarter, driven primarily by weakness across global equity markets.
- We believe equity positioning closer to neutral is warranted for the foreseeable future.
- We expect elevated inflation, tighter financial conditions, and recession fears will continue to weigh on market sentiment in the fourth quarter.
How were market conditions in the third quarter of calendar 2023?
Financial markets were challenged by persistent inflation, monetary policy tightening, a slowdown in global growth, and surging oil prices. Most major asset classes delivered negative returns for the three months.
Equity and fixed income began the quarter on a strong note in July, bolstered by better-than-expected economic data and earnings results. However, both markets sold off in August when the credit ratings for the U.S. government and 10 U.S. regional banks were downgraded. After fueling equity gains throughout much of 2023 due to enthusiasm for artificial intelligence technology, the “Magnificent Seven”* stocks saw mixed performance for the month. Markets continued to experience weakness in September. U.S. Treasury yields rose, and oil prices surged due to record global demand coupled with extended supply cuts by Saudi Arabia and Russia.
Combatting inflation remained a top priority for the Federal Reserve and other key central banks. At the end of July, the Fed raised rates by 0.25%, which brought the federal funds rate to 5.25%–5.50%. This was the highest range in 22 years. At its annual conference in August, the Fed stated it would “proceed carefully” and continue making data-driven decisions on a meeting-to-meeting basis. As part of this process, the Fed mentioned it would try to balance the risk of doing too much and slowing growth against the risk of doing too little and increasing inflation.
The Fed left its benchmark rate unchanged at the September meeting, but its commentary took on a more hawkish tone. The Fed suggested another interest-rate hike was possible before the end of 2023. Policymakers also indicated the need to keep interest rates high well into 2024 to ensure inflation drops back down to its 2% target rate and that when rates eventually come down, it may happen more slowly than previously projected. Yields on U.S. Treasuries rose, and prices fell further, as investors ratcheted up their expectations for the Fed’s terminal interest rate. This amplified recession concerns and weighed on interest-rate-sensitive investments from bonds to high-growth technology stocks.
U.S. stocks, as measured by the S&P 500 Index, returned –3.27% for the quarter ended September 30, 2023. Non-U.S. stocks in developed markets returned –4.11%, as measured by the MSCI EAFE Index [ND]. The strength of the U.S. dollar contributed to their underperformance relative to U.S. stocks. Emerging market stocks, as measured by the MSCI Emerging Markets Index [ND], returned –2.93%. A slowdown in China’s property sector due to excess supply and stagnant consumer spending dampened investors’ outlook for emerging market economies.
High-yield bonds outperformed investment-grade bonds over the quarter. The JPMorgan Developed High Yield Index rose 0.71%, while the Bloomberg U.S. Aggregate Bond Index returned –3.23%. The yield on the 10-year U.S. Treasury note began the quarter at 3.81% and ended at 4.59%. The yield curve remained inverted, which reflects investors’ expectations for a decline in long-term interest rates. [The yield curve is a graphical representation of the yields/interest rates of bonds with equal credit quality but differing maturity dates.]
How did Putnam Retirement Advantage Trusts perform during the three months ended
September 30, 2023?
All Retirement Advantage vintages delivered negative absolute returns. Losses for the longer-dated portfolios were a result of their higher equity allocations and weakness across global equity markets. Shorter-dated, fixed income-oriented strategies also suffered from this weakness in equities but finished with smaller negative returns.
Putnam Retirement Advantage Trusts invest in underlying Putnam collective investment portfolios to create a diversified target-date portfolio. We use an important tool called a glide path to determine the funds’ allocations among asset classes and the underlying funds over time. With the glide path as a reference point, our portfolio managers make tactical decisions based on our analysis of current market risks and opportunities.
What strategies contributed to and detracted from performance?
Asset allocation decisions enhanced benchmark-relative performance. We entered the period with an underweight position to equity risk and at the end of July shifted to a modest underweight position. This weighed on performance in July as equities experienced strength, but aided performance as stocks sold off in August and September. With respect to interest-rate risk, the portfolios entered the period modestly underweight. In late September, we shifted to a neutral position. This tactical positioning within interest-rate risk led to a gain over the period.
Overall, our security selection decisions boosted benchmark-relative performance. Our quantitative U.S. large-cap core, fundamental U.S. large-cap value, quantitative U.S. small-cap equity, and quantitative international equity strategies lifted performance.
What is your near-term outlook for the markets?
We expect elevated inflation, tighter financial conditions, and recession fears will continue to weigh on market sentiment in the fourth quarter.
Our near-term outlook for equities is slightly bearish. The Fed has tightened more than what was priced in at the beginning of 2023, and its interest-rate cuts were pushed out further than initially expected. Furthermore, the S&P 500 Index has rallied strongly due to investor excitement over artificial intelligence and economic data that lowered the risk of recession while increasing the potential for a soft landing for the U.S. economy. Given this backdrop, we believe equity positioning closer to neutral is warranted for the foreseeable future.
Our near-term outlook for interest-rate-sensitive fixed income is neutral. Following the hawkish market reaction to the Fed’s summary of economic projections and dot plot from its September meeting, 10-year U.S. Treasury yields reached their highest levels since October 2007. We continue to believe that the Fed will keep rates higher for longer.
Our view on commodities is neutral. Many physical markets remain tight, but the potential for recession and tighter financial conditions are risks to the downside. Commodity volatility has also increased significantly.
We continue to have conviction in our investment strategies and our ability to adapt the portfolios to changing market conditions.
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