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WeekWatch -‘Market growth stalled last week, as continuing US inflation began to dent market confidence’ Nov 21

WeekWatch -‘Market growth stalled last week, as continuing US inflation began to dent market confidence’ Nov 21

Market growth stalled last week, as continuing US inflation began to dent market confidence.

Last week, US government figures revealed headline inflation hit 6.2%, the highest rate in 30 years.

The high rate of inflation can be attributed to several factors – increasing energy costs, stretched supply chains not yet fully recovered from COVID-19, and increasing salaries due to worker shortages, for example.

The Federal Reserve has maintained that the causes of this high inflation are transitory and should gradually reduce as the world recovers from the pandemic and supply catches up with demand. However, pressure is beginning to build on the US political structure to do something proactive about it, and on Wednesday President Joe Biden admitted as much, saying: “Inflation hurts Americans’ pocketbooks, and reversing this trend is a top priority for me.”

Two weeks ago, the Federal Reserve began to taper its economic support measures put in place during COVID-19, however kept interest rates unchanged.

BlueBay’s Mark Dowding warned against assumptions that higher inflation is necessarily a temporary anomaly.

He noted: “Bluntly speaking, if policymakers fail to act and are left asleep at the wheel, there is a growing risk that inflation will only trend higher. We now think that US CPI could approach 8% early in 2022 with core prices well above 6%. It is hard to know when the Fed may blink.” Although both the S&P 500 and the Nasdaq fell this week, the fall was gradual over the five-day period as opposed to a steep drop when high inflation was reported.

It should also be noted that this came after several weeks of strong growth, and both were coming from record highs.

Rising inflation rates and increasing uncertainty around when US policy makers may start to raise central rates is a reminder to diversify investment portfolios. Different assets classes from different geographies can help mitigate some of the risks associated with higher inflation or increasing interest rates.

The FTSE 100 had a positive week, as its recent recovery continued. Although it remains below its pre-pandemic levels, it finished Thursday at the highest point since the pandemic first struck, before falling on Friday. It is getting close to an index score not seen since February 2020. Mining companies performed notably well as a sector, with rising commodity prices helping to drive up their share prices.

There are still challenges for the UK market, however: a Reuters poll of economists revealed the majority believe the Bank of England will raise interest rates in its December Monetary Policy Committee meeting, for example, which could affect equity prices.

Ruth Gregory, Senior UK Economist at Capital Economics also highlighted increasing trade tension as a potential threat to the UK’s ongoing recovery. The past week has seen an escalating war of words between the UK and EU over French fishing rights and notably the Northern Ireland Protocol, with Lord Frost, the UK’s chief negotiator with the EU, threatening to invoke Article 16 of the Withdrawal Agreement if there isn’t sufficient progress in ongoing negotiations. Article 16 allows either side to implement unilateral “safeguarding measures” if the protocol leads to “serious economic, societal or environmental difficulties that are liable to persist”, or to “diversion of trade”.

The effects, however, could sour relations between the UK and the EU, and Gregory noted this uncertainty is having a negative effect on the UK economy: “With speculation rising that the UK will trigger Article 16 of the Northern Ireland Protocol, the big risk is that relations between the UK and the EU sour to such an extent that parts of the whole UK–EU Brexit deal unravel. Even if things do not deteriorate that far, the cloud of Brexit uncertainty adds to our concerns that, amidst continued shortages and the drag on real incomes from high utility prices, GDP growth will be sluggish over the next six to nine months.”

From the European point of view, the STOXX Europe 600 continued to trade further into record territory. The EU is facing similar inflationary pressures as the UK and US, however recent strong earnings results have helped lift the market to new highs in recent weeks.

BlueBay is a fund manager for St. James’s Place.

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