It’s a wearily familiar story, inflation is remaining firm, employment data strong and interest rates rising. Last week the Bank of England (BoE), previously criticised by some for being behind the curve in raising interest rates, picked up the pace with a half a point hike, taking the base rate to 5.0%. More recent rises had been of 0.25 percentage points.
For the last year or so, the Federal Reserve (Fed), BoE and the European Central Bank (ECB) have all been on a hiking trajectory. The Fed has recently paused, following its most recent rise in May, but signalled that it would hike another couple of times before year-end. UK markets are expecting the BoE to go further, to 6.0%, while the ECB has signalled a slowdown to quarter point rises, after a flurry of 0.75 and 0.50 percentage point moves.
The impact on equity markets has been clear. The FTSE All-Share is underperforming peers. To be fair, the US stock markets’ advance is not a broad-based marker of confidence. The rally has been led by a very narrow group of tech-related companies with the biggest gainers specifically operating in areas with links to the growing interest in Artificial Intelligence and its utility. In the fixed income markets, UK government bonds (and investment grade) have fallen back because of stronger wage data and expectations of further rate rises. Fears around the effect of central bank policies already implemented, coupled with expected additional rate hikes, have led to concerns that the USA is the region most likely to fall into a recession.
Consensus forecast probability of recession in next 12 months
Source: Columbia Threadneedle Investments and Bloomberg as at 6 June 2023. Estimates and forecasts are provided for illustrative purposes only. They are not a guarantee of future performance and should not be relied upon for any investment decision. Estimates are based on assumptions and subject to change without notice
The UK economy has a much closer relationship to the property market than many of its peers due to home ownership patterns and the recent surge in mortgage rates is expected to have a significant impact on household finances and consumer spending – as well as property-market activity – in the next six months. More fixed-rate mortgages are coming up for renewal than usual as we approach three years since the post pandemic housing boom and two-year anniversary since the stamp duty holiday ended. Given the recent move in mortgage rates, now above 6% for five-year fixed deals, pressure on the UK consumers’ finances will continue to be applied.
So, what to do in our portfolios? We continue to be cautiously positioned, with a higher-than-historic level of government bonds. If bonds sell off further, then on balance, we would view this as an opportune time to further increase our exposure. For the moment we are making minimal changes off the back of recent market moves, keeping open our options on tactical deployments. We have, however, recently closed out our US dollar hedge as sterling had strengthened noticeably since we had initiated the hedge and the US dollar looked set to reverse its previous trend.
