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 US vote is coming into focus
Last week was quiet, with no significant economic data releases, so markets continued to take cues from the US election polls. The US dollar rose, and bonds declined. Surprisingly, stocks fell. It’s hard to attribute these dynamics to one single event. Trump had taken a slight advantage in the polls in all swing states in the previous week, though still within the margin of statistical errors, but his advance faded last week. The US dollar index, alongside US Treasury (UST) yields have, in our opinion, risen too fast on Trump given that the economic backdrop hasn’t changed much. With the presidential race so tight, and the outcome very much unpredictable, we expect some volatility as results start to come in next week.
The fall in equities could be attributed, in the absence of other major news, to the rise in US bond yields. US bond yields have been rising since September (which we anticipated, leading us to tactically reduce our UST positions), making it more expensive to borrow money at a time when interest rates are still elevated.
Uncertainty about the US election and the potential for a ‘Red sweep’ (Republicans winning the presidential election and both chambers of Congress) could exacerbate concerns about America’s deteriorating fiscal situation. In 2016, when Trump was elected, interest rates were much lower at 0.5%. So, this time around, fiscal and foreign policies, i.e. tax cuts and tariffs, could matter for the market as new debt will be issued in a higher rate environment.
From an investment perspective, the potential for volatility is a reason why we’re still holding an ‘insurance’ instrument (where clients’ knowledge and expertise, as well as regulation, permit). This financial instrument appreciates when the equity market declines, limiting the negative impact on performance.
Attention returns to the real economy
The US Federal Reserve’s (Fed) latest views on current market conditions, revealed that regional Feds saw little change in economic conditions across their districts since early September, somewhat contrasting with recent positive economic data. Fed officials still see monetary policy as restrictive and anticipate further cuts in November and December. However, recent US economic data have been strong and could thwart the Fed’s plans for cuts. Last week’s fall in jobless claims put upside pressure on the coming nonfarm payrolls (Friday), although they could ease after a strong print last month. Overall, economists expect the US economy to have grown 3% in the third quarter (Wednesday). All this data highlights the economy’s resilience. Perhaps a favourable reading around the 2% inflation target (Thursday), could limit the current markets’ fears and support the rate cutting outlook.
Inflation is at or below target in Europe as growth slows
Last week, the purchasing managers’ indices showed that the European economy is still contracting. This is mainly due to the recession in the manufacturing sector, as services activity is still growing. We believe economic growth data for the third quarter (Wednesday) will continue to show the divergence between the core countries and the periphery, the latter enjoying a much more favourable economic momentum than the former. Overall, inflation is likely to remain below target on average across the Eurozone (Thursday), bolstering the case for sequential rate cuts by the European Central Bank. For now, expectations of lower interest rates have helped European stocks to remain at/or close to their historical highs. However, this position is under review given the weakening growth environment, and with a lack of other positive catalysts in sight.
UK markets to focus on the Budget
On Wednesday, the Chancellor will outline her plans for taxation, spending and borrowing, along with a new set of fiscal rules in her speech. The Office for Budget Responsibility (OBR) forecasts, the Treasury costings and the Debt Management Office (DMO) gilt issuance plans will also be published. The market is likely to focus on how far potential tax rises and investment spending will go.
While the conditions are different from those in play at the time of the 2022 ‘mini Budget’ episode, the gilt market is showing some increase in volatility. Our expectation is that the Chancellor will seek to strike a compromise between growth and stability, avoiding any measures that might destabilise the market. In 2022, the market reacted negatively to what it perceived as an excessive level of spending funded via debt issuance.
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Information correct as of 28 October 2024.
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