In some ways there has been one simple theme running through global financial markets over the last 6 months: Markets have been totally focussed on inflation and a current high interest rate regime to bring inflation down from 10% levels in US/UK 18 months ago to back towards Central Banks targets of 2%. Those high global interest rates are exampled by the US with a rise from a post Covid 0% to a 20-year high of 5.25% at the end of last year.
Indeed, at the end of last year there was great excitement that the inflation battle was almost won and that that global interest rates would be cut sharply. On that basis, global equities and bond prices rallied sharply in November and December. The US Federal Reserve predicted 3 x 0.25% cuts in the key ‘Fed Funds Rate’ in 2024 and the markets themselves predicted 6 x 25% cuts.
In the first quarter of 2024 we had something of a financial hangover as inflation remained stubbornly high (3 – 4%) and none of those interest rate cuts materialised. Bond yields rose so bond prices fell incurring reasonably significant losses for bondholders. Stock fell from their highs but performed much better than bonds partially driven by the tech sector and exciting themes around AI as well as decent corporate earnings.
Where are we right now?
Inflation remains above 3% in the US. Employment remains strong. Markets are now only expecting 1 or 2 quarter-point interest rate cuts somewhere around the fourth quarter. At least Fed Chairman Jay Powell said last week that “higher interest rates were unlikely” so it does seem lower interest rates (good for bonds and equities) are on their way, albeit slowly.
So equities are close to all-time highs, and have underlying strength. The US S&P 500 trades at 5,180 (the 12-month range is 4,100 -5,250). UK equities are also trading at all-time highs with the FTSE 100 nothing up the biggest run of closing highs in 15 months over the last couple of weeks.
Bonds, as exampled by the US 10-year Treasury Bond trading at a yield-to-maturity of 4.50% (12-month range 3.34 – 5.02) continue to underperform.
Currencies: The biggest driver of any currency is the outlook for short term interest rates. The stronger the outlook, the stronger the currency.
US Dollar – The US Dollar DXY index (an index of the Dollar against 6 of the US trading partner currencies) is standing at 105.50 (12-month range 99.50 -107.50) indicating a relatively strong Dollar with little prospect of immediate and substantial interest rate cuts.
British Pound: Investors have been building up bets against the pound as conviction grows that the Bank of England will start cutting interest rates (currently at 5.25%) by the summer – ahead of its US counterpart. Currency speculators’ wagers in a fall Sterling have reached a 16-month high. Asset managers have turned the most bearish on the UK currency since March last year.
Commodities: OIL is fairly static at $80 per barrel with conflict in the Middle East and Ukraine not having a significant impact.
GOLD has had a strong rise in price over the last 12 months (+15% ) to 2,300 dollars per ounce (52-week range 1,809.40 – 2,429.00) boosted by the prospect of lower interest rates (gold does not do well if, as a non-interest bearing asset, interest rates and bond yields are high). The gold price has also been boosted by strong buying from China.
Again, the inflation news remains key to asset price performance.
