Uncategorized

In this month’s Market Commentary, Raymond James’ European Strategist, Jeremy Batstone-Carr, discusses the global financial markets, takes a look at the UK and US economies, plus he examines recent challenges in China.

July has proved a strong month for investors in the financial markets, particularly across the stock markets of Western developed economies. Returns were generated against a backdrop of economic resilience, especially in the United States where, despite the Federal Reserve having raised interest rates in excess of 5.00%-points in little over a year, growth has persisted and even exceeded expectations.

This year marks the 110th edition of the Tour de France, the most prestigious bicycle race in the world. And like the markets, the Tour is always challenging—and evolving. The three-week, grueling 2,200+ mile route changes every year and, surprisingly, starts in different countries—this year in Spain versus the UK, the Netherlands, Germany, Belgium, and Denmark over the previous five years! The point is, just like the Tour, economic and market cycles have different starting points, and no two routes are alike.

 

This has been a busy week in markets with a wide range of economic data released as well as surprise interest rate increases from the Canadian and Australian central banks.

The Reserve Bank of Australia (RBA) increased interest rates by 0.25%, taking the headline rate to 4.1%, an 11-year high. There were further surprises in the week when the Bank of Canada raised their headline interest rate to 4.75%, a 22-year high. A senior official cited surprisingly strong household spending and high core inflation as key reasons for increasing rates. The increase in rates came after a four-month pause where rates had been held at 4.5%.

After very strong US labour data last week, this week has seen surprisingly weak data from the US, which makes it difficult when trying to determine the current health of the world’s largest economy. Monday’s ISM services index for May came in at 50.3, the lowest level this year. The ISM surveys services firms purchasing and supply executives. A reading above 50 indicates expansion, while below 50 is seen as a contraction. The 50.3 reading for the US shows that the services sector is barely expanding. On Thursday US jobless claims increased by 28,000 to 261,000. The data measures the number of Americans filing new claims for unemployment benefits and has risen to the highest level since October 2021. The US dollar fell on the news with investors pricing in a higher probability of the US Fed pausing their interest rate hikes next week.

While the focus of most developed markets is on stubbornly high inflation, China appears to be facing deflationary pressures. The Chinese producer price index (PPI) fell -4.6% (year-on-year), the biggest drop in seven years. PPI measures the prices domestic producers receive for their output. Headline inflation for China came in at 0.2% and will put further pressure on the central bank to cut rates in an effort to try to stimulate the economy.

Revised Q1 GDP figures for the Eurozone mean the area is in a technical recession, with negative growth in Q4 2022 and Q1 2023. High inflation has negatively impacted the consumer, while rising interest rates are also beginning to slow economic growth. Last year a recession was fully baked into the price of most European equities and as such the news, while headline grabbing, has not negatively impacted the stock market. In fact, European equities have actually been a bright spot in 2023, with the largest nation, Germany, seeing their domestic stock market hit all-time highs in May.

The Halifax house price index showed that UK home prices have fallen 1% over the last year, the first time this index has shown a yearly drop since 2012. The impact of higher interest rates has led to increased borrowing costs for homebuyers and has stifled demand. Mortgage rates are once again rising and one would expect further pain in the housing market, especially if interest rates remain elevated in the medium term.

The mixed messages from economic data continued this week, which can make asset allocation challenging. We think in this environment it is sensible to maintain diversification and take a slightly cautious stance. We also believe the ability to be nimble will be an advantage going forward, allowing one to exploit heightened volatility, which we are currently witnessing in bond markets. A quick glance to next week sees US inflation data released on Tuesday as well as the US Fed meeting and setting interest rates – the big question is whether the US Fed will pause, or continue to take rates higher.

Andy Triggs, Head of Investments

Risk warning: With investing, your capital is at risk. The value of investments and the income from them can go down as well as up and you may not recover the amount of your initial investment. Certain investments carry a higher degree of risk than others and are, therefore, unsuitable for some investors.

Five weeks ago, we spoke about the luxury brand Moet Hennessey Louis Vuitton (LVMH) becoming the first European brand to achieve the $500bn market cap value. However, the luxury goods market has been hit over the last two weeks. With the rally initially being driven by demand from China there has been a cooldown in sales, with LVMH shares falling -5.55% over the last month, down to a market cap value of $412bn.

House prices in the UK have fallen at their fastest annual pace in 14 years, as Nationwide reported a 3.4% drop in house prices in May. This fall in house prices is the largest (year-on-year) drop since July 2009, which will be welcomed by potential first time buyers, however rising mortgage rates are still a factor in play. With the UK’s inflation rate slowing less than expected to 8.7% and core inflation rising, the Bank of England are still expected to hold rates higher for longer and this in turn will drive up mortgage interest rates. For first time buyers or home owners whose fixed rate terms will be ending soon, a two-year fixed rate mortgage is around 5.49%, significantly greater than the 3.25% it was a year ago.

Wednesday was the last day of May with inflation results for many of European countries released. German inflation fell to 6.1%, its lowest level in over a year, with headline inflation also falling in France, Spain and Italy. With greater than expected falls in price growth, the next ECB meeting on 15^th June in Frankfurt will be interesting to watch as investors had hoped for greater caution on further rate hikes. On Thursday, ECB President Christine Lagarde, acknowledged rate hikes are working but as ever maintained a strong tone stating the hiking cycle needs to continue “until we are sufficiently confident inflation is back on track to return to target”, referring to the inflation target of 2%.

Another hot topic this week has been the story of Artificial intelligence (AI). Nvidia are the world’s largest semiconductor company, who seemingly are the biggest winners of the AI boom as on Tuesday they briefly hit the $1trillion market cap mark. Nvidia are responsible for creating around 80% of the chips (graphic processing units) that power AI.  Only Apple, Alphabet (Google), Microsoft and Amazon have reached this $1trillion milestone, with Nvidia’s stock value tripling in under eight months reflecting the rush in interest. Despite the sky-high valuations, investors seem to believe Nvidia’s business has room for growth as AI is still in its early stages and has not yet seen mass adoption.

US Non-farm payrolls were released this afternoon, with a staggering 339k jobs added in May beating the market expectation of 190k. This is a rise to April’s revised figure of 294k. With the strong labour market and inflation in the country falling, the expectations of the US falling into a recession dampens, however it may prove that the next US Fed meeting is not the turning point for rates.

Early this week, Turkey’s president Mr Erdogan was re-elected, winning another five years in power in a decision that has split the country. President Erdogan, who has led the country for the last 20 years, secured 52% of votes in a narrow win, the closest the president has come to being unseated. Notoriously known for harsh levels of intimidation and jailing opposition politicians and journalists, the population are torn over the president’s use of state resources and control of media to influence the result.  With the dust settling, a spiralling economy, rampant inflation of 43% and significant Syrian migration commotion within the country are tasks the President will have to face immediately.

Continued signs of rate hikes, imminent recession fears and political unrest are just some of the issues challenging investors currently. Despite this we continue to focus on long-term opportunities, while ensuring there is sufficient diversification in portfolios to help protect against short term unease. To quote Simon Evan-Cook, who sits on our investment committee, with long-term investing it’s best to “keep your hands in the car at all times”.

 

Nathan Amaning, Investment Analyst

Risk warning: With investing, your capital is at risk. The value of investments and the income from them can go down as well as up and you may not recover the amount of your initial investment. Certain investments carry a higher degree of risk than others and are, therefore, unsuitable for some investors.

It has been a busy week in markets and for the team at Raymond James Barbican. On Thursday, the team participated in an industry wide football tournament that was organised to help raise funds for a cancer research trust, Sarcoma UK. After impressing in the group stages and winning the group the team were knocked out in the quarter finals on penalties.

One of the biggest shocks this week was the release of the UK’s inflation rate. Headline inflation (year-on-year) for April was 8.7%, the first time it has fallen below 10% since August 2022. However, the drop in inflation was less than anticipated and core inflation (excludes the price of food and energy) was the main cause of concern as it rose from the previous month to 6.8% in April. UK government bond prices have fallen (yields rise) on the back of the data with the 2yr government bond yield rising above 4.5% as investors are now expecting further interest rate rises from the Bank of England (BoE). Rising inflation is also a key worry for the Prime Minister Rishi Sunak, who promised to halve inflation by the end of this year, requiring it to fall to 5%. It may have been too great of a promise as the Conservative party have lost seats in local elections and are under pressure heading into the national election next year.

Rising bond yields (falling prices) have been a theme this week with US government bonds also suffering following the release of US Fed meeting minutes. While there was acknowledgement that the need for further interest rate rises “had become less certain” it also wasn’t ruled out and this was enough to cause a sell-off in bonds.

UK Retail sales surprised this morning, rising 0.5% in April (month-on-month). This is up from the -0.9% in March which the Office for National Statistics believe were hindered by unusually heavy rain, keeping shoppers at home. This rise certainly suggests there has been little impact from the surge in inflation at this moment in time. Pound sterling has risen against USD to 1.235 since the news, following weakness earlier in the week. Households have been resilient, however it’s evident the squeeze will begin as 1.5m households face an increase in mortgage interest payments this year.

Ryanair, Europe’s largest airline by passenger numbers, have released a report stating they expect 10% traffic growth this year as they posted better than expected net profits of €1.43bn. Robust demand for airlines tickets show travel has not been affected despite rising interest rates and Ryanair plan to operate almost 25% more flights than pre-Covid levels this summer. CEO Michael O’Leary had a bearish tone on the future, however, as he believes demand for European short haul flights could drop this winter and early 2024 as consumer spending becomes strained.

The German economy is the largest in Europe and the fourth largest in the world after the United States, China and Japan. However, after revised figures, GDP in the country fell by -0.3% in Q1 2023. This follows the -0.5% in Q4 2022 meaning they are in a technical recession. The warm winter weather eased the pain felt from their over reliance on Russian energy but even a rebound in industrial activity and the easing of supply side issues were not enough to help the Germans avoid recession. The German Chancellor, Mr Scholz, appeared to be more optimistic about future growth in the economy stating the massive expansion of clean energy “would unleash the strengths of the economy” coupled with investments in semiconductor and battery factories.

The recent artificial intelligence (AI) excitement has led to a very narrow market rally, led by some of the mega-cap US growth stocks. Nvidia is one of the stocks that represents the AI rush. On Wednesday it released better-than-expected results and saw its share price rally around 25%, adding around $200bn to its market cap, which is now approaching $1 trillion. The company now trades at an eye-watering valuation and while the narrative is certainly compelling, we only need to look back a few years to see how it can be dangerous to get too carried away with powerful stories. During COVID-19, stocks such as Zoom and Peloton saw their share prices rise by significant amounts on the back of the work-from-home story, only to see falls of 80% or more since reaching highs.

The current market conditions have been challenging for portfolios this week, with bonds struggling while equity markets in general have also been weak. The bright spots have come from the technology sector and areas of Japan. We continue to be mindful around the lagged effects of rising interest rates and acknowledge the inflation and interest rate outlook could look very different in the coming months.

 

Andy Triggs, Head of Investments & Nathan Amaning, Investment Analyst

Risk warning: With investing, your capital is at risk. The value of investments and the income from them can go down as well as up and you may not recover the amount of your initial investment. Certain investments carry a higher degree of risk than others and are, therefore, unsuitable for some investors.

Artificial Intelligence (AI) is likely to play an increasing role in the future. What exactly is AI? Simply put, it is a machines ability to perform traits of human intelligence, such as learning, problem solving and perception. Why is it the future? On Thursday, BT Group, Britain’s biggest broadband and mobile provider announced plans to cut up to 55,000 jobs by 2030 and adapt to new technologies such as AI. BT Group CEO, Phillip Jansen, believes after completing its fibre roll out and simplifying its structure with AI, the business will gain significant profits whilst delivering better customer service.

AI is certainly a concept investors are warming to but there are still concerns around the rules and guidelines it needs. CEO of Open AI, Mr Sam Altman, was called to Congress this week along with other top technology CEOs to touch on the risks AI could potentially pose to society, how it would affect the jobs market and why regulations for the technology was mandatory. “If this technology goes wrong, it can go quite wrong” were the words Altman shared before suggesting a federal agency be created in order to review AI programmes before they are released to the world. It is evident that AI may eliminate some jobs, but it is also likely we see job creation as training and education is introduced in the future.

On Wednesday we saw a slight rise in the unemployment rate to 3.9% from January to March, signalling weakening in the labour market. This is an indicator that the Bank of England (BoE) will consider before their next rate meeting on the 22^nd of June. There has been an increase in the amount of people that are looking to join the labour force again and this helped alter the unemployment figure. We must highlight that over 2.5m workers have been out of work due to poor health since the pandemic, with the blame pointed at record-long NHS waiting lists. UK Chancellor, Jeremy Hunt, has recently provided greater funding for childcare costs in an effort to encourage more workers to return to the labour force.

Businesses owned by Mr Elon Musk are rarely side-lined in the news and this week is no exception. Twitter, the social media platform, has a new CEO taking the place of Mr Musk, and this is Linda Yaccarino, who has developed the nickname “Velvet Hammer”. Having previously run NBCUniversal, the ad’s sales business, her main objective has been identified; to bring back advertisers to the business. Since the $44bn takeover by Mr Musk, ad sales have halved to $2.5bn as brands were conflicted with the significant moves made by the previous CEO. Will Mr Musk give Ms Yaccarino enough room to operate and convince brands that they can operate in a less controversial environment? This question can only be answered in time.

Japan’s headline inflation for April (year-on-year) was higher than expected at 3.5%, with core inflation (which excludes the cost of fuel and energy) rising to 3.4% from the previous 3.1%. This is now a fresh four-decade high of inflation in the world’s third largest economy and investors are increasingly wary that Bank Governor Uedo will stray from his previous dovish stance and tighten policy in order to reach the 2% inflation target. Japan’s GDP for the first quarter of 2023 was stronger than expected at 1.6%, driven mostly by increasing tourism and strong corporate earnings.

News in markets is ever flowing and can be perceived in good or bad light. In these times we as always maintain our message on diversification and ensuring portfolios are not overly exposed to market narratives. It is important to focus on the long-term opportunities that are created in markets.

Nathan Amaning, Investment Analyst

Risk warning: With investing, your capital is at risk. The value of investments and the income from them can go down as well as up and you may not recover the amount of your initial investment. Certain investments carry a higher degree of risk than others and are, therefore, unsuitable for some investors.

The Month In Markets – April 2023

Last month’s concerns around the banking sector appeared to dissipate for much of April, leading to a relatively calm month in terms of news flow. The regular readers will note that the UK equity market was the best performer during the month, in complete contrast to last month where it was the worst.

We will start with the UK equity market, which rebounded after a difficult March. We’ve witnessed markets whipsaw month-to-month over the last year or so and this was another continuation of that theme. Oil and gas, led by Shell and BP, posted strong gains over the month, while banks such as Lloyds also had strong returns. These sectors had suffered in March.

Alongside a rebound in some of the larger UK listed equities, we also witnessed a pick-up in mergers and acquisitions (M&A) activity. We have heard many of the UK fund managers we meet reference the fact that the UK equity market is cheap and a likely consequence of this would be increased M&A activity. One of the trends of the M&A activity this year has seen foreign private equity firms bid for UK assets. A combination of a weak UK currency and low valuations make our assets very attractive to foreign buyers. Private equity in general is still awash with cash and eager to deploy this. It’s not just private equity firms buying assets, as we saw Deutsche Bank bid for Numis, at a 72% premium. There is a clear short-term benefit, with share prices rising strongly on bid news. However, longer-term the benefits are less clear, with the UK losing some market leading businesses and investors missing out on future earnings and dividends.

UK inflation data released during April (March data) showed inflation at 10.1%, higher than expected. The news that inflation is not coming down as quickly as expected created a headwind for UK fixed income assets. The likely implication of higher inflation is that the Bank of England (BoE) will continue to raise interest rates. The expectation is now for another 0.25% increase at the next meeting in May.

UK inflation is currently an outlier, with inflation falling at a much faster pace in other developed economies. Inflation data for the US came in at 5%. The expectation is for inflation to continue to fall as components such as shelter (rents) begin to fall. Euro area inflation currently stands at 7%, having peaked at 10.6% in October 2022. While these figures are all still considerably above target, the market continues to expect inflation to fall this year. This should allow central banks to pause their interest rate hikes in the coming months and the market is even expecting rate cuts by the end of 2023.

Although not covered in the performance charts, we have continued to see US dollar weakness over April. The USD weakened by around 2% against GBP in April, and is now around 12% weaker since the 30th September 2022. Currency movements are notoriously hard to predict, but it is likely a combination of a stronger than expected UK economy (remember everyone was expecting a recession already), combined with the US banking woes, which will likely lead to lower growth and lower terminal interest rates, resulted in the weakening.

The US labour market has been exceptionally strong over the past 12 months. Over this period the jobs data continually surprised to the upside, exceeding economists’ predictions. The labour data in April, while still showing over 200,000 jobs added to the economy, did come in lower than expected. Whether this is a turning point remains to be seen. The jobs market is expected to cool throughout the year as the impact of higher interest rates should temper demand for goods and services.

Staying with the US, April saw many of the largest companies report their Q1 results. The banking behemoths, JP Morgan and Citi posted stellar results. It’s clear they are benefiting from the regional banking crisis and have seen a large inflow into their deposits as customers appear to have moved funds from the smaller banks into these large banks.

Emerging markets and Asia were some of the weaker markets during April. China, which is the largest country in both benchmarks posted mixed economic data during the month. Their post-COVID recovery appears lopsided, with their manufacturing sector falling back into contraction, while areas such as travel and shopping continue to do well. Since re-opening the economy towards the end of 2022, it’s clear consumers are keen to spend on experiences and services as opposed to purely goods.

Portfolio activity during the month was minimal, with one change occurring in the fixed income element of portfolios. We modestly increased interest rate sensitivity in the portfolios with the introduction of a UK gilt fund, and this was funded via the sale of a short-dated corporate bond holding. Following one of the most difficult years ever for government bonds, we believe opportunities have now been created for long-term investors and have therefore increased exposure. We also believe there is an additional portfolio diversification benefit and that government bonds will act as a good hedge to equities in the event of an economic downturn.

Appendix

5-year performance chart

Risk warning: With investing, your capital is at risk. Opinions constitute our judgement as of this date and are subject to change without warning. Past performance is not a reliable indicator of future results. This article is intended for informational purposes only and no action should be taken or refrained from being taken as a consequence without consulting a suitably qualified and regulated person.

Andy Triggs

Head of Investments, Raymond James, Barbican