SNAPSHOT2 min read

Views at a glance – December 2023

Markets increasingly expect central banks to start cutting interest rates in the first half of 2024.

04/12/2023
Market Update and Views at a glance - December 2023 1000px

Authors

Caspar Rock
Chief Investment Officer

A rate driven market

This autumn has been a reminder that timing the market is incredibly hard. After the worst October in five years, global equities enjoyed their best November since news of a Covid vaccine broke in late 2020. For bond markets, it has been one of the strongest months in decades. The dramatic turnaround comes as investors buy into the idea that the Federal Reserve has not just finished raising interest rates – but may be about to cut them. Comments from Federal Reserve official Christopher Waller, who suggested that lower inflation could on its own justify interest rate cuts, were seen as supportive of this view. In theory, lower inflation results in higher real interest rates, meaning that interest rate cuts are required to prevent real rates from rising. In practice, however, there is no certainty that inflation will continue to fall as steadily as it has. Many believe that the last stage of the journey back to the 2% target may be the hardest. Expectations of US rate cuts in the near term may be premature.

Eurozone and the UK likely to cut before the US

Schroders’ economists expect US growth to remain relatively robust early in 2024, before slowing later in the year. This is driven by the strong position of US households, who still have some excess savings from the pandemic years and are now benefiting from rising wages as other forms of inflation moderate. This could mean inflation remains above target for slightly longer than expected. Policymakers will be particularly concerned about the risk of a “second wave” of inflation, something that has been seen in previous inflationary episodes. In the Eurozone and UK, on the other hand, inflation may now be less of a challenge. Both economies are very close to recession and high interest rates have had more of an impact on consumer spending. This makes it more likely that we see interest rate cuts from the ECB and Bank of England in the first half of 2024.  

Autumn Statement highlights UK’s challenges

The latest polling data suggests that the Chancellor of the Exchequer’s tax cuts marginally improved the Conservative party’s electoral prospects, but did little to seriously dent Labour’s lead. Cutting business taxation is good news for UK corporates and should support long-term growth. Reducing the rate of national insurance looks less significant. Frozen tax bands mean that a greater share of income is now subject to higher rates of tax and cutting national insurance simply hands a small share of this windfall back to taxpayers. The more concerning issue is the calculation of the “fiscal headroom” used to fund these tax cuts. As many commentators have noted, it is based on very limited increases in public sector spending at a time when public services are already under huge pressure. This raises the possibility that we will see political battles over tax and spending once again trigger renewed UK market volatility.

Positioning

We have continued to slightly increase our equity exposure. This reflects our view that we have now seen a peak in US interest rates and that US consumption remains relatively strong. The latest purchases have been funded by trimming our position in gold, which has performed better than might have been expected in today’s high interest rate environment. Given our view that US growth may slow later in 2024, we remain slightly underweight equities. Following the significant rally in bond markets, we have modestly reduced the duration of our fixed income holdings given that markets may now be over optimistic about US rate cuts. We continue to see the appeal of alternatives, which can provide valuable diversification benefits, especially in light of rising geopolitical risks. High levels of inflation in the UK have made meeting inflation-plus return targets more challenging in the near term. Despite this, we remain confident in the ability to meet inflation-plus targets over the longer term.

Outlook

Economics

  • Global growth continues to be resilient, driven by consumer demand in developed markets. However, the full impact of rate increases to date have not been felt and risks remain.
  • We continue to expect headline measures of inflation to moderate, although core inflation will remain above central bank targets.
  • Interest rates are probably close to peaking but hopes of imminent rate cuts may be premature.

Valuations

  • After November's rally, global equity valuations look somewhat expensive compared to long-term averages.

  • Credit spreads remain relatively tight although absolute yield levels remain attractive.
  • Government bonds look more attractive given the sizeable yield moves we have seen since 2022 although could remain volatile.
  • Valuations of both equities and credit remain vulnerable to a meaningful deterioration in corporate earnings.

Sentiment

  • Investor sentiment improved significantly over November.
  • Consumer confidence remains weak compared to historic levels, particularly outside the US.
  • Further rises in bond yields or oil prices could add to market concerns in the near term.

Risks

  • Persistently elevated levels of inflation, which would warrant continued hawkish central bank policy.
  • Escalation in geopolitical tension e.g. Middle East, Russia/Ukraine, US/China.
  • Labour market weakness and falling consumer demand could challenge the developed market growth outlook.
  • Potential spillover effect from slowing growth in China on the global economy.

Issued in the Channel Islands by Cazenove Capital which is part of the Schroders Group and is a trading name of Schroders (C.I.) Limited, licensed and regulated by the Guernsey Financial Services Commission for banking and investment business; and regulated by the Jersey Financial Services Commission. 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.

 

Authors

Caspar Rock
Chief Investment Officer

Topics

Snapshot
Economics
Global Market Perspective
Market views
Alternatives
Emerging Markets
Global economy
Economic views
Interest rates
Bonds

Cazenove Capital is a trading name of Schroders (C.I.) Ltd which is licensed under the Banking Supervision (Bailiwick of Guernsey) Law 2020 and the Protection of Investors (Bailiwick of Guernsey) Law 2020, as amended in the conduct of banking and investment business. Registered address at Regency Court, Glategny Esplanade, St. Peter Port, Guernsey GY1 3UF, (No.24546) . Schroders (C.I.) Limited, Jersey Branch is regulated by the Jersey Financial Services Commission in the conduct of investment business. Registered address at 40 Esplanade, St. Helier, Jersey JE2 3QB, (No.31076).

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