Thursday, July 25, 2024

Market Commentary Autumn 2023

A look into the Autumn Markets in 2023

Inflation and the related cost of living squeeze remains the focus of policy decisions across the Western economies and therefore sets the backdrop for current market sentiment.

 

The US Federal Reserve has taken a hawkish approach since March ’22 and the funds rate currently rests at a22-year high (5.25%-5.5%) – these movements ultimately led to the collapse of Silicon Valley Bank in spring ’23 and turmoil in the sector; the Dow Jones losing c. 1,500 points and the S&P500 shedding c. 200 points during this period.

 

Shortly after, Europe witnessed its own ‘run on the bank’ as a stalwart of the Swiss economy, Credit Suisse, collapsed and fell into the hands of former competitor UBS – inevitably, the global markets felt the ripples. In a further parallel, the monetary policy in the Eurozone has seen the European Central Bank lift their three rates to 4%, 4.5%and 4.75% respectively over the period. Again, in a bid to curb cost of living rises.

 

Domestically, Chancellor Jeremy Hunt stated that “nothing is going to compromise [the] battle” to bring down core inflation, thus simultaneously ruling out the loosening of fiscal measures.

 

The Bank of England had implemented 14consecutive rate hikes before the pause on 21st September at a Base Rate of 5.25%. This hold was the result of a surprise fall in the year-on-year headline CPI rate of inflation to August ’23; down to 6.7% against a consensus expectation of 7%. The reduction marks a significant dampening of inflationary pressure over the 12-month cycle, having peaked in Autumn ’22 at over 11%. Note, Rishi Sunak’s pledge to cut inflation by 50% in the calendar year now looks achievable, and the markets are likely to react positively to this tangible marker (if achieved).

 

The question is though, how much of this ‘good news’ [or perhaps ‘not-so-bad news’] is circumstantial and how much is the result of efficient monetary and fiscal policy.

 

During Andrew Bailey’s (Governor of the BoE) address to ‘The City’ at Mansion House he stated “Looking ahead, UK headline inflation is set to fall markedly over the remainder of the year. This largely owes to lower energy prices as last year’s substantial increases drop out of the annual calculation. Food prices should fall too as lower commodity prices feed through to prices in the shops.”

 

Apart from stating his responsibilities and commitment to the current monetary approach, the Governor said little about how the demand side tightening was curbing inflationary pressures, especially on goods and services with a price inelastic demand curve(fuel, food etc). Of course, the true results will be captured retrospectively and much of the household pain has yet to manifest as mortgages are typically fixed for 2, 3 or 5-years.

 

A key threat to the forecast inflationary cooling comes from the activity within the energy sector, notably the extension of voluntary supply cuts by Saudi Arabia and OPEC+. Higher crude oil prices typically take about a month to show at the pump, so the UK can expect to see higher prices in the coming weeks, and a knock on to supply costs and product pricing.

 

Also, to be considered is the wage-price spiral and the effect of large scale industry strikes (diminished supply) and wage hikes. The Prime Minister promised to increase the National Living Wage during his conference address and this is likely to lead to further cross-sector wage rises and pressure on company performance.  

 

It’s a tightrope… avoiding recession whilst curbing inflationary pressures; stripping discretionary spending from households whilst retaining GDP growth and rebalancing a distorted jobs market.

The end of the rate hike cycle is insight, bar systematic shock, and this element, in conjunction with tamed inflation rates, may provide the stability and confidence investors require -“Resilient” is how the UK economy has been described by commentators [and by the BoE Governor] and the markets will show their approval as uncertainty is removed.

 

The timing issue is the consideration for investors as fixed interest returns and reduced access to capital hold back current asset valuations, especially for growth businesses – see the disappointing FTSE AIM performance. Conversely, once interest rates feather down you would anticipate a resurgence from the “good” companies in this sector and a return to value for investors – ‘buy low and sell high’ is a key principle. Where the axis of ‘guaranteed short-term returns’ dissects with the ‘return to value of the financial markets’ is the unknown, but patience and time in the markets is a proven wealth maximiser.

 

The table below illustrates how volatility on the S&P 500 is reduced over time and how those with the ‘stomach for it’ benefit from earlier investment and checking their respective portfolio(s) less frequently – historically you have a 54% chance of seeing arise on a daily basis, but a 95% chance of an increased capital value if you look in 10-years’ time.

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