Just as hopes were dashed that the Federal Reserve would not be able to commence its rate cutting cycle this year due to inflation, economic activity and employment data remaining stronger than desired, there are now tentative signs of things starting to turn, says Ian Rees, co-head of Multi Manager Funds, Premier Miton Investors.
With US core CPI inflation having been stuck at 3.9% at the start of the year, it has finally started to move down (albeit slowly) to 3.6% in May and expected to reach 3.5% for June. Although Purchasing Manager Indices (PMIs) have been quite resilient, the recent downward revision to Q1 GDP from 1.6% to 1.3% shows the economy is not as hot as originally perceived. And finally, with recent US job openings starting to ease, alongside jobless claims having a small uptick, this helps alleviate the hazard of a strong jobs market.
All of this does not mean that investors can start looking forward to an imminent reduction of interest rates in the US. It does however more purposefully point to rates not needing to go higher to cool things down. As such, it helps affirm the narrative that we are at the ‘peak’ for the current rate cycle. Notwithstanding this, the expectations of US rate cuts this year remains data dependent, as we have been consistently told. We must however throw into the mix the US election cycle. Whilst Jay Powell has fiercely defended the independence of the Federal Reserve, it would be also unheard of for rate changes to occur at the time of the election. We have therefore seen expectations ratchet from six 0.25% cuts at the start of the year to just two now, with September and December being the only likely candidates for this to occur.
We should remember however that the Federal Reserve will want to maintain their inflation fighting credentials by avoiding cutting too early. Yet Jay Powell (President of the Federal Reserve) would also be keen to demonstrate that he successfully authored the mythical prize of central banks, to use monetary policy to engineer a ‘soft landing’ for the economy.
Given the focus on the US backdrop resulting from the importance of the US economy within world markets, we are led to expect that the US takes the lead in most economic matters. Unusually however, we have seen that the US market is lagging policy actions elsewhere in this cycle. We have already seen many emerging economies having reduced interest rates a year or more ago. This year we have seen other Western markets start their rate cutting cycles ahead of the US – Canada, Switzerland, Sweden and more recently the European Central Bank, have all begun the process of easing monetary policy.
Investors may be perplexed as to why this has not translated into a much stronger US Dollar so far. Part of the answer lies in the opposing force of the US debt ceiling looming on the horizon and the Trump campaign’s plans of challenging the Federal Reserve’s independence if elected. Still, the outcome has been evident in equity markets where the US has appeared to lag most other markets since March. Such moves have seen a reversal of the US stock-market outperformance that persisted for much of the first quarter.
UK market fight-back
Pleasingly we have seen a fight-back of the UK’s market over recent months. Equity valuations within this market have been enticingly low for a while, emphasising the lack of a marginal buyer in size for this market. This has been exploited by a steady flow of corporate activity and acquisitions from private equity, overseas competitors and even UK companies themselves buying their own shares in haste. More recently, corporate activity has been more evident within the FTSE 100 Index with the bid by the miner BHP for its rival Anglo American in mid-April. This appears to have galvanised the valuation attraction within the market, supporting the UK’s performance since.
China is another market that has polarised investors in recent years. With concerns about state interference in industries alongside governance concerns. This backdrop has meant China has become uninvestable for some, especially as its US relationship remains in the spotlight for both US presidential campaigns. With China communicating more market friendly tones, the introduction of new market-based reforms and starting P/E valuations in mid-single digits, this market too has started to find favour.
In both these instances we find the price of an investment can guide to its future performance potential. While in the short term the market acts like a “voting machine”, we believe like Benjamin Graham, markets function as a “weighing machine” in releasing intrinsic value to patient investors over time.
This information should not be relied upon by retail clients or investment professionals. The views provided are those of the author at the time of writing and do not constitute advice. These views are subject to change and do not necessarily reflect the views of Premier Miton Investors. The value of investments may fluctuate which will cause fund prices to fall as well as rise and investors may not get back the original amount invested.
Reference to any particular investment does not constitute a recommendation to buy or sell the investment.
