Fresh highs, a historic rate rise, and the art of tightening without spooking investors
October delivered fresh highs in the US, UK and several European stock markets, underpinned by political stability in Japan and China. The Bank of England raised rates for the first time in a decade, and the European Central Bank halved its monthly bond purchases. Central banks have become remarkably adept at tightening policy without spooking investors, but markets are most vulnerable when sentiment shifts to an extreme.
Political wins in Asia lift global equities to new territory
Political events buoyed global equity markets in October as Shinzo Abe triumphed in the Japanese election and China saw some stability with the Communist Party's summit strengthening President Xi Jinping's position. The US, UK and several European stock markets hit fresh highs, and fixed interest markets ended the month slightly higher despite a slight withdrawal of monetary stimulus. In sterling terms, European and UK shares were up by over 1%, while stock markets in the United States, Japan and Asia rose by 3 to 6 percent.
David Copperfield would have been impressed
For the first time in a decade, the Bank of England raised interest rates, by 25 basis points to 0.5%. This was as expected, but Governor Carney's comment that two more rate hikes would be necessary to bring inflation back to target was unusual in that central bankers rarely offer such specific information.
The European Central Bank kept interest rates unchanged but announced that, from January 2018, monthly bond purchases would halve from 60 billion euros to 30 billion euros. It also clarified that interest rates would not rise until well after the end of quantitative easing.
Minutes from the US Federal Reserve showed that while some members remained concerned at persistently weak inflation, solid economic growth made a December rate rise more likely. President Trump entertained the financial world with a tweeted adaptation of his reality show, The Apprentice, with "Chair of the Federal Reserve, You're Hired." The winner was existing Fed member Jerome Powell, who will replace Janet Yellen next year.
Illusionist David Copperfield would have been impressed with Mario Draghi's conjuring trick following the recent European Central Bank meeting. President Draghi managed to portray a halving of the monthly bond purchases as an extension of quantitative easing (from January to September, or beyond). Governor of the Bank of England, Mark Carney, pulled off a similar feat when announcing a rise in interest rates with the need for two more: not quite "one and done," but investors took it that rates would not be going above 1% for some years. In contrast to the Taper Tantrum of 2013, central banks have become quite good at tightening policy without spooking investors.
Markets push higher, but a lot of good news is priced in
Currently a dichotomy of views explains the sanguine attitude of investors. Optimists point to the combination of strong growth with subdued inflation as a positive environment with little need for higher rates. Pessimists say that central bankers are aware there is too much debt in the global economy to risk pushing rates much above current levels.
We are aware, though, that markets are most vulnerable when sentiment shifts to an extreme. Economic growth is encouraging, but this has been achieved through trillions of dollars of stimulus and record low interest rates. A lot of good news is priced into valuations, and we need to see how investment markets and the real economy adapt to less accommodating policies going forward. In addition, politics, both domestically and globally, are giving increasing cause for concern. The latest escalation in Middle East tension between Saudi Arabia and Yemen/Iran, as well as Saudi infighting, has contributed to the price of oil hitting a two-year high.
A note from the desk
I am pleased to share our monthly update on market events. The overview seeks to summarise market movements together with our views and the rationale for the positioning of investments going forward. As always, should any aspect of this commentary prompt a question, we would welcome the conversation.
Martyn Charlwood · Managing Director
The rally may have further to go, but vulnerability is building
Whatever the reason for investor sanguinity, markets have been driven into new territory around the world. This does not make us bullish, but it does suggest that the rally might have further to go. Growth prospects are improving for now, inflation remains subdued, and central banks are keen to emphasise their slow and steady approach to removing monetary stimulus.
However, in the absence of any shock, the ongoing demand for income is likely to support equities and, to some extent, fixed interest.
David Copperfield would have been impressed with Mario Draghi's conjuring trick: portraying a halving of monthly bond purchases as an extension of quantitative easing.
As uncertainty over wider geopolitical and economic issues spreads, we are maintaining diversified portfolios with the capacity to take advantage of opportunities when they become available.
Underweight bonds
We remain underweight bonds, preferring equities and absolute return funds.
Overseas funds boosting performance
In contrast to last month, our overseas funds boosted performance, though this had more to do with stronger stock markets than any currency effect.
Diversified and ready
As uncertainty over wider geopolitical and economic issues spreads, we are maintaining diversified portfolios with the capacity to take advantage of opportunities when they become available.
Important information
This article is a marketing communication intended for general information only. It does not constitute personal advice, a recommendation, or an offer to buy or sell any investment. If you are unsure whether an investment is suitable for your circumstances, please seek personal advice.
Past performance is not a guide to future performance. The value of investments and any income from them can fall as well as rise. Capital values are at risk and not guaranteed. Forecasts and views expressed in this commentary represent our assessment at the time of writing and are subject to change.
To discuss how this commentary applies to your own portfolio, we would welcome a conversation.
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