Q4 Active Management Review: Expectations of easing propel markets higher

Executive summary:

  • The fourth quarter of 2023 was a more favourable environment for active managers in the UK, Europe, Emerging Markets, U.S. Small Cap and Listed Infrastructure, while being more challenging for U.S. Large Cap, Global, Global ex-U.S., Japan, Australia, Canada, Long/Short and Global Real Estate managers.
  • To varying degrees the Growth and Quality factors alongside Small Caps dominated returns across most regions, with Value being the clear laggard.
  • The information technology and real estate sectors were standout performers for equity managers across most regions, with financials also delivering strong positive returns. In a reversal from the prior quarter, energy was the weakest-performing sector, with consumer staples also underperforming.

Expectations that central banks could begin cutting rates in 2024 gave investors plenty to cheer about during the final quarter of 2023.

After a volatile third quarter, the last quarter of the year saw strong absolute returns across most markets on expectations that the U.S. Federal Reserve (Fed) had reached the end of its interest-rate hiking cycle and could begin cutting rates as early as March, potentially achieving the much-anticipated soft-landing scenario. This led to a reduction in inflation expectations throughout the quarter in most markets, with some central banks in emerging markets (EM) already lowering interest rates.

For many markets, such as the U.S., the fourth quarter of 2023 was the strongest quarter since the reopening rally in Q4 2020, when the rollout of COVID-19 vaccines was first announced. China was one of the few markets that experienced negative returns during Q4 2023, on the back of concerns around gross domestic product (GDP) growth and negative market sentiment. This weighed on EM returns, relative to developed markets, despite some EM countries seeing high double-digit returns in U.S. dollars (USD). Weakness for the greenback on the back of expectations of interest rate cuts resulted in even stronger USD returns relative to those in local currencies.

Throughout the quarter, the Growth factor dominated returns across many regions, with Small Cap also outperforming. Quality outperformed in Japan, EM, Europe and Australia. In EM specifically, Quality and Small Cap were more prominent factors that drove returns in what was a volatile environment. Conversely, Low Volatility and High Dividend Yield factors lagged, given the risk-on environment and underperformance of stocks perceived as bond proxies. Value also underperformed across most markets.

On balance, the fourth quarter was a more favourable environment for active managers in the UK, Europe, Emerging Markets, U.S. Small Cap and Listed Infrastructure, while being more challenging for U.S. Large Cap, Global, Global ex-U.S., Japan, Australia, Canada, Long/Short and Global Real Estate managers. Country and sector dispersion was again pronounced in the quarter, which alongside stock selection impacted managers’ performance.

The information technology and real estate sectors were the standout performers across most regions, with financials also delivering strong positive returns on expectations of central-bank easing in 2024. Conversely, in a reversal of Q3, energy was the weakest sector, with consumer staples and healthcare also underperforming.

At Russell Investments, our unique relationship with underlying managers affords us special access into the latest active management insights. Here are the key takeaways in fourth-quarter active management performance from our manager research team. 


Global equities

The fourth quarter was a challenging environment for active Global and International equity managers, with around 40% and 45% of products outperforming their respective benchmarks.

  • The Growth and Quality factors outperformed while the Value factor lagged. This was driven by expectations of Fed interest rate cuts and improving market sentiment toward a soft landing. Meanwhile, defensive factors such as High Dividend Yield and Minimum Volatility trailed as recession risks abated.
  • Technology stocks advanced strongly as a long duration growth theme. Rate-sensitive sectors like real estate and financials benefited with potentially easier borrowing/lending. Expectations of relaxing financial conditions were also a tailwind for small caps.

U.S. equities

The fourth quarter was a moderately favourable environment for active U.S. Small Cap managers, while being more challenging for U.S. Large Cap managers, with around 55% and 45% of products outperforming their respective benchmarks.

  • Growth and Momentum outperformed in the quarter, while Value, Dividend Yield, and Low Volatility factors lagged as the market sharply shifted its expectations for interest rate cuts.
  • Technology, Real Estate and financials were the largest outperformers, while energy and bond proxy names in utilities, telecom, and consumer staples lagged the wider market.
  • Companies at opposite ends of the market cap spectrum (micro caps and mega caps) outperformed. Meanwhile, those in the middle – particularly value-oriented names – underperformed. 

Emerging markets equities

The fourth quarter was a moderately favourable environment for active EM managers, with around 55% of products outperforming the EM Index.

  • China continued to underperform on the back of weak GDP growth and sentiment. This negatively impacted EM returns, relative to developed markets, despite strong returns from other countries.
  • Inflection rates benefited Latin America countries, particularly Brazil, while changes in expected Fed policy in 2024 and the ongoing near-shoring theme continue to support the rally in Mexico.
  • Small cap continued to outperform large cap.
  • Information technology was the strongest sector, continuing to benefit from the AI (artificial intelligence) theme, which also drove Taiwan and Korea outperformance. The latter also benefited from a ban on short selling.
  • Consumer discretionary, communication services and real estate all underperformed on China concerns.

UK and European equities

The fourth quarter was a favourable environment for active European equity and UK equity managers, with around 55% and 80% outperforming their respective benchmarks.

  • Falling interest rate expectations benefited longer duration stocks in the IT, real estate and utilities sectors. They also helped lower recession fears, causing small caps to outperform large caps.
  • Continental Europe outperformed the UK, benefiting from its greater exposure to IT and lower exposure to the energy sector, which struggled.

Japan equities

The fourth quarter was a moderately favourable environment for active Japanese equity managers, with around 50% of products outperforming the TOPIX index.

  • Geopolitical risks and concerns over an economic slowdown led to a risk-off market, which impacted factor and sector performance, driving a reversal from the previous quarter.
  • Quality was by far the best-performing factor, while Value and Momentum underperformed.
  • IT strongly outperformed, benefiting from the ongoing AI theme and expectations that the semiconductor cycle has bottomed out. Meanwhile, both energy and financials lagged.

Australian equities

The fourth quarter was a challenging environment for active Australian equity managers, with only around 30% of products outperforming the ASX 300 Index

  • Future interest rate cut expectations favoured the Growth factor and dividend sectors (REITs & banks). The latter was a headwind for active managers, who are consistently underweight these sectors.
  • There was significant dispersion within the financial services and materials sectors, which are approximately 50% of the benchmark.. Stock selection had a large impact on active returns.
    • Banks outperformed, while insurers had a negative return.
    • Building materials and iron ore outperformed, while small-cap lithium and nickel firms faced substantial drawdowns due to declining commodity prices.

Canadian equities

The fourth quarter was a challenging environment for active Canadian Large Cap equity managers, with around 45% of products outperforming the S&P/TSX Index.

  • Larger market cap (Growth & Value) and Minium Volatility outperformed over the quarter, while Momentum, High Dividends, Quality and smaller cap segments underperformed.
  • Outperformance of large cap stocks was largely supported by central bank policy of both the Bank of Canada (BoC) and the Fed. Stability in the BoC’s policy rate contributed to a favourable environment for financials.
  • Combined with dovish commentary from the Fed, it also prompted valuation multiple expansion in Canadian large cap tech stocks.

Long/short equity

The fourth quarter was a moderately favourable environment for equity Long/Short strategies, with the HFRI Equity Hedge Index returning 5.5%. It was more challenging for the HFRI Equity Market Neutral Index, however, which increased 1.7%.

  • The rally was fuelled by cooling inflation trends and a robust job market, which allowed the Federal Reserve to halt interest rate hikes and consider easing monetary policy.
  • While positive, these results trailed the soaring global equity indexes. The primary cause of underperformance among equity long/short managers was the short side of the book. This was particularly the case for those with low beta and concentrated short positions, which were hit by sharp short squeezes.

Real estate and infrastructure

The fourth quarter was a favourable environment for active Global Infrastructure managers while being more challenging for Global Listed Real Estate, with around 90% and 45% of products outperforming their respective benchmarks.

  • Both sectors benefited from lower interest rates. Managers’ avoidance of interest rate bets helped alpha generation.
  • After lagging equities and private real estate, U.S. listed real estate generated its highest returns since 2009. Real Estate managers gave back some of the prior quarter’s excess returns, with stock selection within the sector the main driver of returns.
  • In infrastructure, non-benchmark bets in the infra tech sectors (cell towers and data centers) – which are rate sensitive due to long dated leases – were a major contributor to excess returns, helping offset last quarter’s negative impact from tech.