As we look back over the last 12 months, one of the most notable events has been the change in monetary policy. In response to significant inflationary pressures, the Federal Reserve raised short-term interest rates seven times from near 0% to above 4.25%. In addition, the Federal Reserve began reducing the size of its balance sheet, which had grown from less than $1 trillion in 2007 to just shy of $9 trillion in June of 2022. While only about $400 billion has been shaved from the balance sheet thus far, the Federal Reserve is targeting additional reductions of $90 billion per month in 2023.
With the Federal Reserve tightening monetary policy, not only did short-term interest rates rise, but when plotting treasury bond interest rates for 1, 3, 5, 7, 10, 20, and 30-year bonds, we can see a material change from December 2021 to December 2022. Unfortunately, this change resulted in substantial losses for bond investors because as interest rates rise, bond prices fall. When looking at mutual fund data—as expected—as length to maturity increased, losses also increased, with short, intermediate, and long-term bond funds losing 5.2%, 13.2%, and 24.4%, respectively. As such, investors who avoided longer-term bonds fared much better in 2022 than those who did not.
With the exception of commodities, which benefited from rising energy and agricultural prices, it was a very grim year for risky assets. The combination of increased inflation, a tight labor market, and rising borrowing costs led global stocks as a whole to lose 18.4% during the year, with listed infrastructure faring better at -4.9% and real estate faring worse at -24.8%. Interestingly, after many years of outperformance, which arguably led to stretched valuations, U.S. growth stocks drastically underperformed U.S. value stocks, falling a whopping 29.4% during the year. As such, investors who thoughtfully rebalanced their growth and value holdings in 2021 ended 2022 in a much better position than those who did not.
At the end of 2021, domestic stock valuations were at extreme levels. Statistically speaking, the 10-year price-to-earnings ratio was more than two standard deviations away from the average. For the non-statisticians, valuations have only been that high 2.5% of the time since the end of World War II. As stock prices fell throughout 2022, so did valuation ratios. Today valuations remain high but are no longer at extreme levels. Interestingly, if we segregate U.S. stocks between growth and value, it is only the growth component of the marketplace that remains elevated. If we add in foreign stocks into the mix, we can see that both foreign-developed stocks and emerging-market stocks are attractively valued when compared to U.S. growth stocks, as well as U.S. stocks in general.
I would be remiss to leave out cryptocurrencies from our discussion today. While there were many significant events that took place in 2022—including the collapse of the Terra Luna ecosystem and its stablecoin UST—it was the collapse of FTX and the charges surrounding its founder, Sam Bankman-Fried, that caught many by surprise. While it will be a while before we fully understand what happened, what we know so far is that FTX imploded and caused billions of dollars in losses to its customers, lenders, and investors. Now, a federal grand jury in New York has indicted the former founder and CEO and charged him with crimes related to the downfall, including fraud on customers, investors, lenders, and the U.S. campaign finance system. As the charges make clear, prosecutors believe that this was not a case of mismanagement or poor oversight, but rather, intentional fraud.