Neil Birrell, Premier Miton’s Chief Investment Officer and manager of the Premier Miton Diversified Fund range, provides a pre-Christmas update on what has been going on with central bank policy and its considerable impact on financial markets.
For information purposes only. Any views and opinions expressed here are those of the author at the time of writing and can change; they may not represent the views of Premier Miton and should not be taken as statements of fact, nor should they be relied upon for making investment decisions.
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In brief
- Financial markets expecting a reduction in interest rates in 2024, prompting a surge in returns for bonds, equities and property companies.
- The short-term outlook for bonds and equities looks positive.
- Likely to be a reduction in the returns from cash and savings rates.
Blink and you’ll miss it
Less than a month ago, I wrote a review of what had taken place in financial markets over the last 2 years along with some thoughts about what might happen next year. So much has happened since then that I feel the need to provide an update ahead of the Christmas and New Year holiday period.
The only way is up
The last 2 months or so have been very good for investors in a broad range of different types of assets. Gold has risen by over 10% since early October to stand at very near its recent all-time high.
Stock or equity markets have been strong as well, as measured by the MSCI World Index. They are up by nearly 15% since the end of October. It’s good to see some parts of the stock market that have done less well this year joining in the fun. The FTSE 250 Index, which represents medium sized UK companies, was up by over 15% in the same period. The performance information presented on this page relates to the past. Past performance is not a reliable indicator of future returns.
In other asset classes, bonds have also performed well. Bonds are typically valued by the yield they provide, which is calculated by taking their price and dividing it by their interest rate. This means that their yields can be easily compared to each other and the interest rate available on cash. As the price of the bond rises, the yield falls and vice versa. The 10-year US Treasury bond is seen as the world’s benchmark bond and is very heavily traded in markets. The yield on that has fallen from 5% to under 4% since the middle of October. That is a very significant move in a very short space of time.
Property companies across the UK and Europe have had an even more significant move, they are up over 30%, as measured by a broad index of Pan European property companies (GPR 250 Europe Capped (GBP).
As I noted in this note last month, the expectations for interest rates had changed, in that the view was moving towards the likelihood that they had peaked, and that was having a positive effect on the outlook for the global economy and financial markets.
Recent news from the central banks
Many of the numbers above were given a turbo charge by the announcements from the US Federal Reserve (Fed), European Central Bank (ECB) and Bank of England (BoE) in their December updates.
In particular, the Fed set pulses racing. They kept interest rates unchanged, but the key point of interest was the guidance they provided, noting that inflation had eased and their median forecast is now for 0.75% of interest rate cuts next year. This gives real credence to the view that they think inflation is under control and believe that their policy is producing a controlled slowdown of the economy and lower inflation. We had all been waiting for what had become known as “the Fed pivot”, which is when they let everyone know they thought we had reached peak interest rates and when they would start falling.
Financial markets moved fast and brought forward the timing of when they expect the first interest rate cut to come to probably be at the March 2024 Fed meeting. If not March, then there is a strong certainty of a cut in May. Of course, that could be over optimistic. But the world’s largest and most important economy is performing well and the central view has to be that next year it will avoid, or only have a mild, recession; good news.
The ECB and BoE could not bring themselves to be quite so positive. However, where the Fed goes, others usually follow and that’s what financial markets are expecting, with interest rates to start falling in these regions in the spring of 2024 as well.
On top of that, the beleaguered Chinese economy (the second biggest in the world), where the large and important property sector has been under pressure, was given a shot in the arm by the People’s Bank of China pumping record amounts of cash into the economy to provide support.
Not everything is going up from here though
In the short term, the outlook for bonds and equities remains positive, given the improved economic outlook, but what the changing environment does mean, is that the interest rate you get on your cash deposit account at the bank, or with National Savings, is likely to start falling.
In the medium term, it is the same outlook for cash and we need to wait and see how inflation and economic growth do before getting too carried away with risker assets, such as bonds and equities, although they do not look expensive at all. Indeed, there are parts of those asset classes which appear to be very good value and parts that do not; getting your investment choice correct is going to be key to investment returns next year.
In the longer term, for 2025 and beyond, the central banks are expecting inflation to head back to their targets of 2%, which will mean interest rates are very likely to follow suit and keep falling, which would be a further boost to financial markets and a further reduction in returns from deposit accounts.
The last word
As we entered 2023, the outlook for the global economy was poor; inflation was rife, interest rates were on an upward trajectory and recession was a likelihood. Unsurprisingly, financial markets reflected those factors in the returns they provided.
As we head towards 2024, the outlook for the global economy is much improved; inflation has fallen sharply and appears to be heading lower, interest rates look set to start falling and recession may be avoided or be mild. Unsurprisingly, financial markets have moved upwards from lower levels.
What next? Time will tell, but I, for one, am much more optimistic that it will be prosperous new year this time.