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Weekly Note

The Week in Markets – 13th August – 19th August

This week has been filled with news across all regions, the most recent news being that this morning Andy Triggs, our Head of Investment, received his first born. A huge congratulations to him and his family.

The UK Inflation rate report (year on year) for July was released on Wednesday at 10.1%, beating the forecast of 9.8% and leaping from 9.4% in June. This is the first time it has hit double digits in over 40 years, mainly fuelled by a 12.7% increase in food prices and contributing to record falling UK consumer confidence over the last 20 years. This data comes in straight off the back of labour market data showing real levels of wages falling rapidly and magnifies the difficulties households are facing, even before the expected sharp energy bills rise in October.

Following this data, we can expect strikes to continue towards the end of the year as London’s transport network grinds to a halt again this weekend. Train workers and now bus workers are continuing to hold strikes in a dispute over pay and working conditions. The strikes are seeping into other job sectors as Postal workers are now arranging a series of strikes, presenting further problems for the Government as they worry big wage increases may further fuel inflation.

Moving into Europe, Germany’s industrial sectors are facing a potential standstill as manufacturers of car parts, chemicals and steel struggle to absorb the energy price increases. Power and gas prices have more than doubled since the Nord Stream 1 pipeline resumed at 30% capacity in July. Electricity prices have now soared past 540 Euros per megawatt hour. Only two years ago it was under 40 Euros.

Factories in China’s southwest have completely shut down after reservoirs used to generate hydropower ran low & power demand for air conditioning surged due to scorching temperatures. Companies in the Sichuan province have been ordered by President Xi Jinping to ration power for up to 5 working days. This adds to the setback of Chinas economic recovery following their strict approach to Covid outbreaks earlier this year. The economy grew just 2.5% over a year in the first half of 2022, which is less than half the annual target of 5.5%. This makes the outlook for a potential third five-year term as leader less promising for President Xi Jinping.

News in the US Markets has been more promising as markets have rallied since the turn of August. The S&P 500 hit its 4200 marker for the first time in over 4 months & the Nasdaq has risen in excess of 20% from its 16th June low and is now back in an industry defined ‘bull market’. These moves were fuelled by comments made by the US Fed indicating they could adjust the pace of quantitative tightening based on market conditions.

The weather this week can often reflect markets, with hot and humid temperatures but with occasional days of heavy rain and thunderstorms. We believe that in these times, diversification of asset classes is key to helping support and insulate portfolios.

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.

Weekly Note

The Week In Markets – 6th August- 12th August

If investors were told twelve months ago that US inflation would be 8.5% in July 2022, very few would have believed it, and even fewer would have believed that this would be seen as good news by the market. Yet that is the world we find ourselves in today. It appears we have been conditioned to high and increasing inflation. Wednesday’s US inflation data came in at only 8.5% – both below consensus and lower than the last print – and was well received by markets, taking the view that inflation may have now peaked.

Digging a little deeper into the inflation data, while year-on-year inflation came in at 8.5%, month-on-month inflation was 0%, against an expectation of 0.2%. Monthly inflation has been running at around 0.5% in 2022 so it was pleasing to see this trend come to an end. Energy prices in the US have been falling recently and this was the largest contributor to the soft monthly data. It was reported this week that US gasoline prices fell below $4 a gallon for the first time since March 2022. All in all, the lower-than-expected inflation data provided a boost to markets, with investors pricing in a more dovish US Fed. The S&P 500 and tech-heavy US Nasdaq index rallied over 2% on Wednesday. With lower interest rate expectations government bond yields fell, while the USD weakened over 1% against Sterling.

UK GDP released on Friday morning came in at -0.1% for the second quarter. Given the Bank of England’s comments last week, there was little surprise of the mild contraction in the UK economy. The expectation is that the UK economy will continue to face headwinds over the next 6-18 months due to inflation and the cost-of-living crisis, largely driven by rising energy bills. UK equities rose marginally on Friday morning, with much of the bad news already anticipated, and therefore priced in to some degree. We have previously written about UK M&A activity, and there was another takeover this week of a UK company by a foreign buyer. A Canadian engineering firm bid for RPS at a premium of 76%. It was pleasing that the stock was held in one of our UK equity funds.

Staying with company news the mighty Netflix has appeared to have met its match this week as Disney announced their monthly subscribers had hit 221 million, overtaking Netflix. This is based on a combination of Disney+, Hulu & ESPN, with Disney planning to continue turning the screw, announcing prices of $7.99 going forward. This is cheaper than the standard Netflix price and it will be interesting to see how this price war plays out.

Chinese inflation has been relatively muted compared to the developed world. This week its latest inflation was reported at 2.7%. Given China is the manufacturing hub for the world, it was interesting to see its producer price index, also reported this week, ease to a 17-month low. The very fluid lockdown situation in China continued this week. Certain areas of the popular tourism hotspot Hainan extended lockdowns on Friday.

The current heatwave that is sweeping the UK and Europe has put further strain on supply chains. Water levels in the Rhine river have reached dangerously low levels. The Rhine acts as a transport link, with cargo boats carrying coal and gas to Europe. If these vessels are unable to operate due to the low water levels, it could further strain energy supplies to Germany at a time when they are desperately needed.  European natural gas prices moved higher towards the end of week as concerns about supply rose.

The markets focus remains on inflation and the responses from central banks. Last Friday the very strong US jobs data led the market to expect a more hawkish US Fed, who would continue to raise rates aggressively to combat inflation and a red-hot labour market. This week the pendulum swung the other way with data leading investors to believe the US Fed may now be less aggressive in their rate hike cycle, as inflation may have already peaked. We try to stay clear of the short-term noise and ensure that we are not overly exposed to either outcome.

 

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.

The Month In Markets – July

The Month In Markets - July

The month of July did not particularly feel like a great month. There was little to no progress with Russia’s invasion of Ukraine. Inflation data continued to come in at eye-wateringly high levels. Supply woes continued and Google searches for the word “recession” spiked. Yet despite all of this, risk assets in general produced strong positive returns during July. 

So why did the price of developed market equities and bonds rise this month? We don’t believe it was caused by an improvement in the short-term economic outlook, given economic data was weak during the month.

Additionally, it wasn’t because inflation appeared to be peaking. The most recent inflation data reported came in at 9.4% and 9.1% in the UK and the US respectively, reaching fresh 40-year highs. It was interesting to see that bonds and stocks prices increased despite these higher-than-expected inflation rates, as opposed to earlier in the year when these assets declined in value as a result of heightened inflation data.

What then was driving markets, if not positive data? We believe that during this month, investor attention shifted, and asset prices entered a strange state in which bad economic news was embraced. If inflation worries dominated the first half of the year, then concerns about economic growth dominated July.

The market has begun to discount the possibility of central banks having to backtrack on their interest rate hikes, something that is being referred to as the “Fed Pivot”. If the economy shows too many signs of slowing and the risk of recession increases, central banks could be forced to pivot away from the higher interest rate path and either pause or even cut interest rates in order to support the economy. The weak economic data of July fueled investors beliefs that the “Fed pivot” was coming into play. Historically, inflation falls in recessionary environments as demand declines, unemployment rises, and business investment slows.

Thinking at very simplistic levels, if the problems affecting the asset markets this year have been high inflation and rising interest rates, it makes sense that asset prices can rebound if we start to consider a world where inflation could fall, and interest rates won’t reach the lofty heights that were previously expected.

We can draw parallels from the final quarter of 2018, leading into 2019. Although inflation was muted then, the US central bank was embarking on the final leg of their interest rate hiking cycle. Quarter 4 of 2018 and the month of December were very tricky for equity markets, as they begun to price in a higher interest rate environment. However, by the end of the year, economic data had deteriorated, and the market determined that rates would not reach the previously priced in levels and in fact the US Fed would pivot and begin to ease monetary policy. This is what occurred; the US Fed never raised rates in 2019 and instead cut rates later in the year. In terms of asset prices, we saw equities and bonds perform very well in 2019 as valuations for equities increased (due to lower rates) and bond yields declined (prices rose). While we aren’t categorically saying it will happen again, it is always useful to study similar periods in history and take both downside and upside risk into account.

The old adage of “buy low, sell high” may have also been in play in July. The first six months of the year have been extremely challenging with steep declines in bonds and equities. There will be some long-term investors deploying cash at these levels. Large parts of the bond universe are offering yields that we haven’t seen for a decade. There are risks associated with this, but we know starting yield is a good predictor of future returns. Likewise, equity valuations have contracted this year and for investors who believe the price you pay matters and impacts future returns, July provided an attractive long-term entry point.

You will notice from the monthly chart that Asia ex-Japan and Emerging Markets equities lagged their developed counterparts. One of the biggest drivers of this was weakness in China, which is the biggest country exposure in most Asian and Emerging market benchmarks. Over the month there were renewed lockdowns as COVID-19 cases were detected and China implemented its Covid-zero policy. This rattled markets, while it has also taken its toll on the population, with dissent rising in the country. The Chinese real estate market was also under pressure in July, with reports from S&P Global Ratings that property sales could fall 28%-33% in 2022.

In times of heightened volatility investors are often more susceptible to behavioural biases. It’s likely many investors wanted to run for the hills and sell to cash after such a difficult June. However, in doing so, they would have missed out on an exceptionally strong month of July. No doubt these investors are now wrestling with the difficult decision of whether to invest at much higher levels than four weeks ago.

While we believe in active management and making tactical changes to portfolios, it is very rare that we make big sweeping portfolio changes. This is a very purposeful approach, and is a process designed to remove (or at least limit) our own emotions getting in the way and leading to sub-optimal decisions.

Andy Triggs

Head of Investments, Raymond James, Barbican

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.

Weekly Note

The Week In Markets – 30th July – 5th August

It has been a busy week for press conferences in the UK. Not only are premier league managers talking in front of the cameras ahead of the start of the new Premier League season tonight, Bank of England (BoE) Governor Andrew Bailey delivered his verdict on the UK economy after the BoE raised interest rates by 0.5%, the biggest rise in 27 years.

The BoE members voted 8-1 in favour of a 0.5% interest rate increase, which has taken the headline rate level to 1.75%, the highest since 2009. Their outlook for the UK economy was gloomy, with predictions that inflation would now reach over 13% later this year and that the economy would shortly enter recession. UK equities, despite the negative outlook for the economy, finished the day higher, while UK government bond yields fell (prices rise) and sterling declined versus most major currencies. The UK housing market will likely be negatively impacted by higher interest rates as the cost of borrowing for homebuyers will increase. This coupled with rising energy costs and already high house prices makes house affordability difficult. We may already be seeing the early signs of a slowdown with reports from Halifax this week showing UK home prices dropped by 0.1% in July compared to June, the first monthly decrease in over a year.

This week saw US House Speaker Nancy Pelosi visit Taiwan, making her the highest ranking American official to visit in 25 years. The visit has led to a rise in geopolitical tensions with China, who embarked on live fire exercises in close proximity to Taiwan. China has also placed certain trade sanctions on Taiwan and sanctions on Nancy Pelosi.

Despite this difficult backdrop equity markets continued to advance this week, albeit at a slower pace than last week. The gains were fuelled by continued belief that central banks will change tack sooner rather than later with their approach to interest rate hikes as weaker economic data forces their hand. We will have to wait and see whether this will happen, although hawkish comments from US Fed member Bullard suggested they haven’t given up on raising interest rates to combat inflation. Speaking on Tuesday, Bullard said the US Fed “are going to be tough” on inflation and that “we can take robust action to get back to 2%”.

Heading into Q2 earnings season there was a lot of concern about how companies would be coping with rising costs, labour shortages and supply issues, but by and large it’s been a better-than-expected earnings season. BP produced stellar results this week, beating profit expectations, allowing them to increase its dividend by 10% and announce a further $3.5bn share buyback plan.

The main economic data was saved until the end of the week with US Non-Farm Payrolls being released. The data showed 528,000 jobs had been added, more than double the expected number. The extremely large increase in employment will give the US Fed confidence that the economy is in a strong position and that they will need to keep on their aggressive interest rate hiking path to tame inflation. In the immediacy we saw government bond yields rise and the US Dollar strengthen as investors re-calibrated their interest rate and inflation expectations. 

Stock markets have staged a mini-recovery over recent weeks following a very tough first six months of the year. We do think markets will continue to be choppy given the current high level of uncertainty in the global economy. There is long-term value appearing in most asset classes, but we are mindful that there is the potential for things to get worse before they get better, and this leads us to continue to be well diversified across our sector, style and geographical positioning. We also continue to be active in our fixed income allocations, looking to take advantage of the extreme volatility we are seeing in this asset class.

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.

Financial markets make progress in July against a difficult backdrop

The investing environment could hardly be more challenging. Global economic activity is slowing, Western developed economies are flirting with recession, inflationary pressures are extremely elevated, and Western central banks remain committed to raising interest rates in a concerted effort to bring them under control. The geopolitical backdrop is still as dark as ever; the war in Ukraine continues, China’s bellicose threats against the United States ahead of House speaker, Mrs Nancy Pelosi’s visit to Asia have become more pointed. Europe faces a natural gas shortage over the coming winter, Dr Mario Draghi’s Italian government has collapsed, while in the UK, the same fate has befallen Mr Boris Johnson’s administration.

Weekly Note

The Week In Markets – 23rd July -29th July

The UK economy played second fiddle this week to football and athletics. The England women’s national football team dispatched Sweden on Tuesday and now face Germany in the final on Sunday evening. On Thursday the Commonwealth Games kicked off in Birmingham. It is the third time the UK has hosted the games, which sees 72 countries take part with over 5,000 athletes competing.

The US stock market has been first out of the blocks this week, posting some big moves towards the end of the week. The tech-heavy Nasdaq index rose over 4% on Wednesday and followed this up with another strong showing on Thursday, rising over 1%. Bond markets have also rallied this week, picking up the baton from last week and carrying on with the trend of falling yields (and therefore rising prices). The drivers of these market moves have been centred around the US Fed and the potential for a shift in their approach to inflation. The US Central Bank met on Wednesday and announced a much anticipated 0.75% increase to interest rates, however, it was their comments that caught the eye and helped support markets. For the first time this year they recognised a “softening” economy, which has been driven be a slew of weak US economic data. The interpretation here is that the US Fed’s tightening actions so far are now feeding into slowing demand and as such inflation may fall in the near term without the need for continuing aggressive interest rate hikes. If concerns about inflation and higher interest rates have been the major headwind for asset prices this year, it makes sense that asset prices may rebound if these concerns begin to subside.

Staying with the US the country fell into a technical recession following the release of Q2 GDP data. Weaker than expected Q2 GDP showed the economy contracted in real terms. Two consecutive quarters of real GDP contraction is the technical definition of a recession. The White House has dismissed that the US is in a recession, with Janet Yellen stating, “when you are creating almost 400,000 jobs a month, that is not a recession”. The market took the news in its stride, with the weak data supporting the view that the US Fed may indeed ease off on interest rate hikes.

There was a false start this week as Russia quickly cut gas supplies to Germany, days after flows had resumed following a period of maintenance. The restrictions kicked in on Wednesday, meaning there is now only 20% of the volume of gas flowing into Germany from Russia compared to the start of the year. This cut in supply was predicted by many European politicians, but Germany is concerned this reduction in gas will mean they are unable to fill their reserves sufficiently ahead of winter. Energy rationing has already begun for both households and businesses but could lead to industries shutting down over the next few months. Germany could certainly be on the tip of a recession.

Eurozone data showed the area had grown by 0.7% in Q2, while inflation hit a new record high of 8.9%. The stronger than expected growth, coupled with elevated inflation will put pressure on the European Central Bank to continue to move interest rates into positive territory over the coming months.

Company earnings on both sides of the pond continued in earnest this week. Natwest produced much better than expected results as the bank benefitted from higher interest rates and announced a special dividend, with the shares rising 7% on Friday morning. Shell also produced strong results, posting record profit as high oil and gas prices boosted revenues. The company announced a $6bn share buyback programme. Positive results from US firms Apple and Amazon were somewhat offset with poor results from Meta (Facebook) who announced their first ever revenue drop driven by poor advertising revenue. 

In these uncertain times we once again continue to focus on diversification and ensuring portfolios are not overly exposed to any particular theme or narrative. The last few weeks have once again highlighted how markets can whipsaw, with leaders and laggards rotating and market narrative shifting. We believe slow and steady is the best way to win the race.

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.

Weekly Note

The Week In Markets – 16th July – 22nd July

The conservative leadership race continued in earnest this week, whittling down the candidates to the final two, meaning the next Prime Minister will be either Liz Truss or Rishi Sunak. Despite collecting the most votes in each of the rounds, Sunak is seen as the underdog, with Truss now bookies favourite to be installed into 10 Downing St on 5th September. This could all change over the next six weeks as the final two attempt to convince a ballot of 160,000 Tory Party members they deserve to lead the Party.

Elsewhere in the UK inflation data once again surprised to the upside, which has been a constant trend this year. At 9.4%, inflation is now at a 40-year high and will put pressure on the bank of England to raise rates by more than 0.25% at their next meeting, with a 0.5% raise now being pencilled in. As we have written about in recent weeks, the market’s focus appears to have shifted from inflation concerns to growth concerns, and this was once again evident in the bond markets this week. Despite elevated inflation, we’ve seen steep falls in UK government bond yields over the last three days. Indeed, this trend has been witnessed across the developed world. Yields on the UK 10-yr government bond have fallen below 2% for the first time since May 2022, while the US equivalent yield has fallen through 3% this week, currently at 2.81%. While inflation in the short-term is likely to be stubbornly high, there is a greater belief in the market that the actions of central banks will subdue growth, curb demand and ultimately bring down inflation over time.

The past week has felt a little bit like the previous decade, with falling bond yields leading to strong rallies in growth stocks. This has led to the US market, which has a large exposure to these types of equities, having a strong week. More broadly we have seen strength across most equity markets, with the UK large-cap index hitting a three-week high on Wednesday.

Europe has been in the spotlight this week with all eyes on the Nord Stream pipeline which was due to restart after 10 days of maintenance. There have been concerns that Russia would not switch the gas back on to Germany and Europe after the maintenance, however by Friday gas volumes flowing to Germany were back at pre-maintenance levels. It should be noted that this level was still only at 40% capacity, but for now at least, it means there is still gas flowing into western Europe. There were further positive developments by the end of the week with reports that a deal had been agreed between Russia and Ukraine to allow grain exports to leave the currently blockaded Black Sea ports. This would go a long way to help alleviate concerns around a potential food crisis and put downward pressure on grain prices. As we have seen with potential agreements and deals since Russia invaded Ukraine in February, nothing can be guaranteed, and the situation could change quickly.

The European Central Bank met on Thursday and surprised markets by raising rates by 0.5%, which was more than expected. This was the first interest rate rise in Europe since 2011 and symbolically moved rates to zero and out of negative territory for the first time in eight years.

Staying with Europe, the Italian political situation remained in turmoil with Draghi officially stepping back. There are new elections pencilled in for September with the potential for more extreme parties to gain traction given the current cost-of-living and energy crisis in Italy.

While the UK has basked in the sun this week with the mercury rising to 40C, it’s been pleasing to see equities also rising this week. The rally has been broad based, with most sectors and regions participating, although the growth focused areas of the market, such as technology, have been the stand-out performers. In a week where we’ve faced risks surrounding gas supplies to Europe, UK inflation at 9.4% and less than spectacular US corporate earnings it may surprise many to see markets higher. It’s a timely reminder that the market is forward looking and reflects where we are likely to get to, not where we are at today.

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.

Weekly Note

The Week In Markets – 9th July – 15th July

A busy week with politics dominating the headlines in UK and Europe, while inflation data and company earnings were the focus across the Atlantic.

The race for the Conservative leadership kicked off this week, with initial voting rounds commencing and candidates being whittled down.  There are now only five candidates remaining, with Sunak, Mordaunt and Truss amongst the favourites. We do now know the new Prime Minister will be in place by 5th September.

Political turmoil was not confined to just the UK, with Italian Prime Minister Mario Draghi offering his resignation after losing the support of coalition partner, the Five Star party. The Five Star party do not believe Draghi is doing enough to aid with the cost-of-living crisis. In an interesting twist, Draghi’s resignation was rejected by the Italian President – the current picture is a little unclear but there should be more clarity next week with Draghi due in parliament on Wednesday.

All eyes were firmly focused on US inflation data on Wednesday. As has been the trend this year, the data came in higher than consensus, and reached yet another new 40-year high. The 9.1% inflation reading was above the expected 8.8% and will cause further headaches for the US Fed. The market is now digesting the potential for a 100bps (1%) interest rate hike later in July. The bond market’s reaction was muted compared to recent months, with markets looking through the headline data and focusing on the likely global slowdown which could ease inflationary pressures later in the year. President Biden said that US inflation was “unacceptably high” but stated that it is also “out-of-date” and doesn’t reflect the recent drop in oil and gas prices. 

US earnings season kicked off, and initial results from some of the major US banks highlighted potential risks in the global economy. JP Morgan’s results came in below expectations with the bank boosting its reserves to cover potential future loan losses. Morgan Stanley missed profit estimates for the first time in nine quarters. It wasn’t all doom and gloom however, with Pepsico beating revenue and earnings forecasts – consumers are clearly not cutting back on things like fizzy drinks (Pepsi) even as prices rise!

A trend of 2022 has been the strength of the USD ($) versus a basket of global currencies. The currency is at a 20-year versus global currencies and during the week reached parity with the Euro (€). Sterling (£) continued its slide against the USD briefly falling below 1.18. The strength of the USD is a problem for countries who need to import food and energy (which is priced in USD). It’s part of the reason why the recent falls in oil prices are yet to be reflected at the pumps in the UK. Brent Crude oil prices have fallen 15% over the last month on global economic slowdown concerns. Copper, which is very economically sensitive, continued its slide this week, falling another 1.5% on Friday morning. The metal is now down 23% over the last month and 27% compared to one year ago. Gold has struggled of late and is heading for its 5th weekly decline. The stronger USD has acted as a headwind for the precious metal.

There was a rare moment of sunshine for the UK economy with GDP rising 0.5% in May and returning to growth. This positive data was coupled with stronger than expected manufacturing and construction data.

The summer months are normally characterised by thin trading volumes and low volatility, as investors and workers go on holiday and take time off. However, with the current backdrop of high inflation and geo-political risks, there is little likelihood of a quiet summer. We believe in these volatile times active management and pro-active asset allocation can help support and insulate portfolios.

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.

The Month In Markets – June

At a headline level June was yet another tough month, in what has been a difficult first half of 2022. However, the chart below does not provide the full picture of what occurred during the month, where key market changes could have implications for asset prices going forward.

For the majority of 2022 the market’s focus has been on inflation. More specifically it has been on the fact that central banks around the developed world were behind the curve on inflation and would have to raise interest rates more than they were telling us, in order to help cool inflation.

That provided a very difficult backdrop for both bonds and equities, which largely sold off in lockstep and in turn provided a very difficult backdrop for multi-asset investors. We typically hold assets such as government bonds to act as a hedge to equities; that clearly hasn’t worked this year.

However, during the month of June there were signs of a shift in the market’s focus. The market has now become nervous that in reacting to inflation, central banks, and in particular the US Fed, could now tip economies into recession. Their efforts to cool demand will effectively go too far (something referred to as a “hard landing”), destroy too much demand and ultimately lead to a recession. Now this is by no means a given, however, the probability of this occurring has increased. In effect, a risk that was not on investors’ minds six months ago, has now appeared.  

The shift from inflation concerns to growth concerns resulted in some changes in market leadership. Commodities, which have been on a tear this year, and are seen as economically sensitive, nose-dived from mid-June. High-yield bonds, which react negatively to growth concerns also went south during the month. On the flip-side, government bonds, which have been moving downwards this year, appeared to buck that trend and held firm while equities fell during the second half of June. The UK market, which has been very resilient this year, had a more challenging month. The index has significant exposures to sectors such as energy and mining which were dragged down by falling commodity prices.

Concerns around an economic slowdown or even recession would make most people run for the hills. However, things are rarely that straight forward, and its important to think through the various scenarios that could play out.

In a slowing environment, where demand is weaker and commodity prices fall, inflationary pressures could ease. If inflationary pressures were to ease, the need for higher interest rates would diminish. Now if most of the problems this year have been because of higher inflation and higher interest rates, then falling inflation and slower interest rate rises could in theory be supportive for a wide range of assets.

This is now being referred to as the “Fed pivot”, and there are considerable amounts of column inches being dedicated to this subject matter currently. The view is that the actions of central banks (and markets) so far have now been enough to slow the economy and cool future demand which will bring down inflation.  In this environment the US Fed will not need to be as aggressive going forward and could pause, or even pivot and shift away from their tightening interest rate policy. Parallels here can be drawn from 2018. The US Fed were raising interest rates, which led to a very volatile final quarter of 2018, with equities falling significantly and bond markets also struggling. However, by the end of the year, the hiking cycle stopped, and indeed pivoted, and 2019 was a very strong year for both equity and bond markets.

As is often the case, trying to call the bottom in markets is a difficult and dangerous game. The low in markets in the financial crisis was in March 2009 and the bottom for Covid-19 was in March 2020. This was prior to the jobs data announcement that showed 20 million people lost their jobs in one month! These turning points still felt extremely uncomfortable and there seemed little improvement in the situation. Yet markets are forward looking, and they behave in ways that is often not reflective of the here-and-now, but more reflective of where we will be in the next 12-24 months.

Portfolio activity in June within our bond element of the portfolio saw us reduce exposure to some of the more economically sensitive areas (such as high yield) and add in more US government bonds (unhedged). Overall, we continue to make portfolios more resilient to economic downturns, but are also mindful that risk assets, such as equities, have fallen considerably this year and that central bank policy could change in the coming months. 

Andy Triggs

Head of Investments, Raymond James, Barbican

 

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.

Weekly Note

The Week In Markets – 2nd July – 8th July

There seems only one place to start and that is with UK politics, following the dramatic course of events this week, which led to Boris Johnson stepping down as the Conservative party leader. A string of resigning MPs from Tuesday evening through to Thursday morning effectively made Johnson’s role untenable and forced his hand. It will be interesting to watch the race for the leadership role unfold over the coming weeks.  Bookmakers’ early favourites for the role include Ben Wallace, Rishi Sunak, Tom Tugendhat and Penny Mordaunt.

The rather muted reaction in UK assets may have been a surprise to some, however, the likelihood is that a political uncertainty discount had already been applied to UK assets. Sterling actually rallied against the USD on Thursday, while UK equities advanced.

US equities have been strong this week, with the market rising for four consecutive days (Monday – Thursday), matching its best winning streak this year. US bond yields have moved higher this week, with the 10-yr US treasury yield back around the 3% mark, which is still 0.5% lower than the recent highs. The US 30-year mortgage rate fell to 5.3%, down from 5.7% a week ago, which is the largest drop since 2008. While the rate is still much higher than it was at the start of the year, it should provide some support to the housing market and make affordability better than it has been over the last month. US Mortgage applications have recently ticked up, although they are still 17% below last year’s levels. One would expect that the tighter mortgage conditions compared to 2021 and higher house prices would lead to slower house-price growth going forward

Global growth fears continue to hang over markets this week and it has put downward pressure on commodity prices, which have been in free-fall since mid-June. US Crude oil briefly dipped below $100 a barrel this week, while Brent crude oil prices dropped a staggering 11% on Tuesday. Economically sensitive copper remains under pressure and is down 20% over the last month. The weaker commodity prices should provide some much-needed relief on inflationary pressures.

However, EU Natural Gas has bucked the recent falls in commodities and has advanced on fears of Russia cutting supplies to Europe. The Nord Stream pipeline is due to shut for approximately 10 days due to ‘seasonal maintenance’, however there are fears the pipeline will not reopen. Germany has begun to ration hot water, dimmed its streetlights and shut down swimming pools, with all households being urged to cut energy use.

US Non-Farm Payroll data, released on Friday, came in stronger than expected with 372,000 jobs added to the US economy in June. The unemployment rate remained at 3.6%. The news will likely empower the US Fed to continue to raise rates in the near term, and this view was reflected in bond markets with yields rising (and therefore prices falling).

There was sad news to finish the week, with ex-Japanese Prime Minister Shinzo Abe being shot and killed while giving a speech. Mr Abe had a strong reputation for his Abenomics policies which included increasing the nation’s money supply, increasing government spending and economic structural reforms aimed at reviving the stagnant economy.

The market moves this week once again pointed to the importance of diversification. The more growth focused equities, including technology, have been some of the stronger performers over the past seven days, while resources, infrastructure and gold, which helped prop up the portfolios in the first half of the year, have lagged.

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.

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