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This note contains an overview of our market views, what we are watching, and our portfolio strategy. Any reference to portfolio positioning relates to our flagship discretionary portfolios. Clients with bespoke or advisory portfolios should consult their Client Advisor for the latest update on your portfolio.
The weekend saw another attempted shooting of Donald Trump. While any market implication remains unclear at the time of writing, along with whether and to what extent this might shift voter intentions, this could put the US election on 5 November on investors’ radars even more.
The ECB cuts interest rates again
As we expected, the European Central Bank (ECB) cut interest rates by a quarter of a percent last week, with the deposit rate now at 3.5%. As inflation slows, heading towards the central bank’s target, we think the ECB will reduce rates again this year. However, it’s unlikely to cut at the next meeting in October. We think December is more likely, as hinted by ECB President Christine Lagarde during her press conference.
At its latest meeting, our Investment Committee decided to keep our overweight on short-dated European government bonds (and to short-dated gilts in UK portfolios, see below) as prices benefit from lower rates. This is playing out as European bond prices rose as yields fell for the second week in a row. An important development is the return of the inverse relationships between stocks and bonds: when one falls, the other rises, and vice versa, helping mitigate portfolio volatility.
The Fed is likely to join in this week
As part of our long-term diversified allocation, around three-quarters of our fixed income exposure is in high-quality government bonds and investment-grade corporate bonds, as these benefit from lower rates. US Treasury and UK gilt yields also fell last week ahead of the key central bank meetings this week. We expect the US Federal Reserve (Fed) to start cutting rates on Wednesday. The market is still split on whether the Fed will cut by a quarter- or half-percent. We think the former is more likely.
The Bank of England (BoE) reconvenes this week (Thursday), too, but we don’t think it will cut rates this time around. Recent economic data have been relatively solid: the unemployment rate declined in July, both manufacturing and services activity expanded further in August, and this Wednesday’s report is likely to show that inflation has probably risen temporarily last month. Nonetheless, as inflation eventually slows further, we think the BoE will cut rates in December.
Given that the Bank of Japan’s (BoJ) surprise rate increase in August was one of the reasons for the summer market volatility, this week’s meeting (Friday) will be closely watched. The BoJ is unlikely to raise rates again, but investors will look for any hints of further increases down the line. Mainly because of US dollar weakness, the Japanese yen has continued to strengthen recently, reviving some of the market concerns seen in August. However, equity market volatility has declined significantly from the summer spike.
Lastly, Norges Bank (Thursday) is unlikely to cut interest rates just yet. The central bank’s recent regional surveys revealed a two-tier economy. Oil services are doing well despite the recent weakness in oil prices, but interest rates-sensitive sectors (construction and manufacturing) are still under pressure. As with the ECB and BoE, we think Norges will cut rates in December, marking the start of its own monetary policy easing cycle.
Gold shines, markets remain oversensitive to data
Gold was in the spotlight again. The precious metal made new record highs and looks set to rise further, supported by incoming cuts in interest rates and growing demand given market uncertainty and as some central banks continue to buy gold. As the US dollar fell, commodity prices also rebounded last week after several weeks of decline. Disruptions in the Gulf of Mexico also supported oil prices as the hurricane season is in full swing. However, the International Energy Agency’s monthly report highlighted growing concerns on the demand side for oil, especially from China.
Markets have been quite jittery lately, reacting to any slight disappointment in data. Last week was no different. US inflation fell to 2.5%, its lowest level since February 2021. On the face of it, this is good news. However, core inflation (which excludes food and energy prices) came in slightly higher than the market was expecting, causing some short-term market volatility. That volatility eased moments later thanks to Nvidia, whose stock’s been trading sideways since late June. Positive comments from its CEO and news that Oracle will accelerate AI and data processing with Nvidia’s Blackwell chips helped the stock and the broader S&P 500 equity index to rebound. Overall, stocks ended on a strong note in developed markets last week, offsetting most of the losses recorded during the first week of September.
Looking through seasonal market volatility
History shows that the third quarter of the year tends to be challenging for risk assets. We do not believe that overreacting to short-term price action is a fruitful strategy. We have a slight tactical equity overweight and maintain a well-diversified allocation to navigate these volatile times. This approach has helped us cushion the recent bouts of volatility. Overall, we think the US will avoid a recession despite, simply slowing towards a more normal pace of economic growth after considerable strength.
So far, we haven’t seen any sharp deterioration in economic data, just a more moderate pace of growth as we’d expected. There are pockets of weakness, of course, notably in the job market and manufacturing, while services look much more resilient. What’s more, ‘nowcast’ indicators, which use current data to predict economic growth as it happens, put US growth above 2% in the third quarter. So, in the near term, we think the bar is high for economic growth to slow so sharply that it falls into a recession.
