Market Bulletin (26/07/2016)
Nobody likes to be wrong. Markets had been pricing in an 80% likelihood of a rate drop of at least 0.25% last Thursday. Instead, the Bank of England’s Monetary Policy Committee (MPC) wrong-footed markets by voting 8–1 in favour of leaving rates on hold. The FTSE 100 initially suffered before a Friday recovery left it up 1.2% for the week.
The inevitable cry of anguished criticism followed hard on the heels of the announcement, as some investors complained that Mark Carney should never have flagged easing intentions two weeks earlier. In fact, the governor never promised a July rate cut, but comments made by both him and his chief economist suggest that, if July was quiet on the policy front, August may well not be.
The UK base rate is already at the historic low of 0.5%, meaning that the Bank does not have much further to stoop without turning negative. Of course, it could have chosen to increase the £375 billion stock of purchased assets it has financed through its own issuance, and yet it left that figure on hold, too. But in the absence of major data releases covering the three weeks since the referendum result, the MPC decided that it wanted to keep what ammunition it still has in its pouch; although research published last week by Credit Suisse warned that it expects the UK economy to shrink in 2017 due to the referendum result.
If there is bad economic news to come, however, the MPC’s pause may yet prove wise. Following an initial spike immediately after the referendum result was announced, volatility has actually dropped back to normal levels on UK markets. There may be other reasons to lower rates and extend asset-purchase programmes, but they are not visible on stock markets. In fact, last week the FTSE 100 entered bull market territory, having risen more than 20% since its February low.
Moreover, while a weaker pound has drawbacks, last week some of its advantages were to the fore – second-quarter dividends Past performance is not indicative of future performance
for UK-listed companies rose, according to Capita Asset Services, since many pay out in euros or dollars. There were also a significant number of UK mergers and acquisitions last week as foreign companies look to buy UK assets. Beyond the stock market, however, early post-referendum economic signals are largely negative, as the MPC report highlighted.
“In the absence of a further worsening in the trade-off between supporting growth and returning inflation to target on a sustainable basis, most members of the Committee expect monetary policy to be loosened in August,” said the MPC summary report. “There are preliminary signs that the [referendum] result has affected sentiment among households and companies, with sharp falls in some measures of business and consumer confidence… these indicators suggest economic activity is likely to weaken in the near term.”
Just the day before, the Bank had released its Credit Conditions Review for the second quarter. The publication had concluded that, with the exception of the commercial real estate sector, the availability of funding had remained relatively constant for households as for businesses. However, household demand for secured credit, and credit demand from large companies, had declined over the period. After a decade in which assets at the world’s major central banks have increased by several trillion dollars, some investors are beginning to wonder how much more can be achieved simply by providing funding.
“Our view, for what it’s worth, is that enough is (more than) enough,” said Artemis Investment Management last Friday. “Markets, not central bankers, should now be allowed to determine the measure [of funding]. But we don’t reckon they will be.”
While the Bank of England delayed, politicians moved on apace. Numbers 10 and 11 Downing Street both saw a changing of the guard, and the new prime minister was rapid in appointing a new Cabinet. Those especially close to the former prime minister were largely dispatched, while some of the ‘big beasts’ of the Conservative right returned to frontline service. When it comes to the UK’s exit from the EU, the three most important Cabinet positions were handed to pro-Leave MPs. David Davis was given the new position of ‘Secretary of State for Exiting the European Union’, which in acronym form, could read ‘SSEE U’. He has laid out an approximate timetable under which the UK formally bids adieu to the union in 2019.
Stocks in Continental Europe enjoyed a strong week, and the FTSEurofirst 300 rose 3.1%, despite the appalling terrorist attack suffered in Nice on Thursday evening. Eurozone bank stocks were a strong performer. Nevertheless, figures released last week showed that eurozone industrial production had fallen by 1.2% in May, having expanded 1.4% the previous month.
Those figures reflected a broader economic trend in developed countries. Last week Canada became the latest OECD economy to have its growth outlook downgraded, and yields on sovereign bonds continued to dip to new lows, reflecting the uncertainty still at large since the UK’s historic vote. An important exception to the rule was China, where GDP in the second quarter beat expectations to rise 6.7%, thanks in part to government stimulus and a buoyant property sector. Japan also enjoyed a positive week, as the yen fell in value against the dollar, but the Nikkei 225’s stunning 9.2% rise perhaps owed more to expectations of supportive government and central bank policy to come.
Moreover, the dollar’s strength reflected the relative health of the US economy. On Friday, it was confirmed that US consumer prices had risen for a fourth consecutive month in June, while retail sales rose by 0.6% – comfortably above expectations. While there was some encouragement from economic figures, investors were far more focused on stocks.
Last week the S&P 500 reached a record high, finally overtaking the peak it had reached in 2014. It ended the week up 1.3%. Since its low point during the financial crisis in January 2009, the index has almost tripled in value, even as global growth has disappointed and interest rates have remained close to the floor – a reminder of why stocks remain such a wise investment over the long haul.
Even in the US, investors could not entirely prise their eyes from politics. Polls last week showed Donald Trump taking the lead over Hillary Clinton in the ‘swing states’ that usually act as a bellwether for the broader election outcome. Sitting in the UK, however, investors could be forgiven for taking polls with a pinch of salt.
Artemis Investment Management is a fund manager for St. James’s Place.
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