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Market update – April 2023

Recent banking sector stress has clouded the outlook for monetary policy.

03/04/2023
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Bonds and equities rally in a volatile quarter

Rising interest rates were always likely to cause casualties, but investors were still surprised to see a US and Swiss bank among them. While it may still be too soon to sound the all clear, it increasingly appears that SVB and Credit Suisse ran into difficulties because of idiosyncratic challenges and that systemic risks to the banking sector remain contained. Global equity markets have quickly recovered from the shock of the largest US bank failure since 2008 and gained around 3% in the first quarter (in GBP terms, 6% in USD). The impact on bonds has been more enduring, with fixed income markets now anticipating interest rate cuts later in the year. Early in March, investors were expecting US interest rates to end 2023 at close to 5.5%. By the end of the month, they were expected to end the year around one percentage point lower.

Bank stress makes a US recession more likely

Regional banks play an important role in the US economy, especially in the commercial property market. Recent disruption could well lead to greater risk aversion as well as increased regulation. Both factors could result in a slowdown in credit growth, which has historically depressed economic activity. This increases the probability of a US recession over the next year. Longer-term trends also point towards a slowdown. Over the past eighteen months, US consumers have fueled their spending by borrowing more and saving less. With the savings rate now below long-term average levels and debt levels high, these sources of support may soon be nearing exhaustion. This sluggish outlook is not yet reflected in US corporate earnings expectations, which continue to point to growth this year.

Spring Budget underlines UK's challenges

Recent stress in the banking sector originated in the US and Europe, but the FTSE100 was hit hard given its relatively high exposure to financials. Domestic developments have also done little to inspire confidence in the UK market. In the Spring Budget, Chancellor of the Exchequer Jeremy Hunt was able to make the underwhelming claim that the UK had avoided a technical recession – but the growth outlook remains subdued and inflation is set to remain above 4% for much of the year. Schroders’ economists remain skeptical about the impact of Hunt’s plans to boost growth. At the same time, there has been a great deal of public handwringing over the future of the UK’s capital markets as a number of high-profile companies have opted to list in overseas markets.

Portfolio positioning

Our core strategies have negligible exposure to the equity and debt of the banks that have been most impacted by recent developments. More broadly, challenges in the banking sector suggest our underweight exposure to equities remains appropriate. Other asset classes look relatively more attractive. We have been gradually increasing our exposure to government bonds, which should start to offer more defensive characteristics as inflation falls from very high levels. Gold has also been performing relatively well as investors have turned to safe havens. We maintain our exposure as part of our blend of defensive assets. High levels of inflation in the UK have made meeting inflation plus return targets more challenging in the shorter term. Despite this, we remain confident in the ability to meet inflation-plus targets over the longer term.

This article is issued by Cazenove Capital which is part of the Schroders Group and a trading name of Schroder & Co. Limited, 1 London Wall Place, London EC2Y 5AU. Authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. 

Nothing in this document should be deemed to constitute the provision of financial, investment or other professional advice in any way. Past performance is not a guide to future performance. The value of an investment and the income from it may go down as well as up and investors may not get back the amount originally invested.

This document may include forward-looking statements that are based upon our current opinions, expectations and projections. We undertake no obligation to update or revise any forward-looking statements. Actual results could differ materially from those anticipated in the forward-looking statements.

All data contained within this document is sourced from Cazenove Capital unless otherwise stated.

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