SNAPSHOT2 min read

Market update - November 2022

Equities have recovered some of the year’s losses as the pace of interest rate rises is set to slow.

03/11/2022
House of representatives America

US rates to rise more slowly...but go higher

Stock and bond markets have been on better form in the fourth quarter as investors anticipate that a peak in US interest rates may be in sight. At its latest meeting, the Federal Reserve delivered a fourth consecutive 0.75% rate hike while acknowledging that "at some point...it will be appropriate to slow the pace of hikes." However, it disappointed markets by suggesting that interest rates may have to rise further than currently anticipated – and potentially above their pre-2008 peak of 5.25%. Wherever borrowing costs end up, the increases seen so far this year are already having a significant impact on US real estate markets, which is likely to reduce inflationary pressure from housing costs. There has not yet been much evidence of a slowdown in labour markets, the other key driver of core US inflation, but this is likely to materialise as the economy slows.

Little reason for cheer in the UK

Rishi Sunak’s premiership has helped to stabilise UK financial markets and longer-dated gilt yields are now significantly lower than their peak at the start of October. However, the good news may end there. To keep markets onside, Sunak and the new Chancellor of the Exchequer are now expected to deliver a combination of spending cuts and tax rises in this month’s Autumn statement. It’s a far cry from the significant tax cuts that were on the table just a couple of months ago. While this medicine may be necessary, it is likely to mean UK growth remains weak over the medium term. The one silver lining is that it may make it easier for the Bank of England to bring inflation under control, potentially meaning UK interest rates do not rise as much as might otherwise have been the case.

Gridlock the most likely outcome in US midterms

Polling suggests that the US democratic party is set to lose control of the House of Representatives at the upcoming midterm elections, undermining president Joe Biden’s ability to pass new legislation. Historically, this has been a favourable outcome for investors. Schroders’ economists note that US equities have averaged annual gains of 12.9% when a president has had to contend with a split Congress – compared to a more modest increase of 6.7% when a Democratic president has controlled both chambers. Of course, history may not be a reliable guide given today’s very unusual circumstances. However, “policy paralysis” could make it easier for the Fed to tackle inflation and, as in the UK, mean there is less conflict between fiscal and monetary policy.

Portfolio positioning

We expect that higher interest rates will lead to recessions in the UK, US and Eurozone. In this environment, we remain underweight equity, with a clear preference for higher-quality companies. Before adding back to equities, we want to see the prospect of recession reflected in earnings estimates. We are also looking for weakening of labour markets, which could be a signal that interest rates are at or near a peak. We recently upgraded our view on fixed income to neutral and are gradually increasing our exposure to government bonds. We also continue to favour alternative assets, including commodities. Historically, they have helped to protect portfolios from inflation shocks. Metals should also benefit from strong demand as a result of electrification and energy transition. 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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