After a positive July, markets around the world hit the brakes towards the end of August as investor hopes for a Fed pivot to a more accommodative interest rate, and wider monetary policy, were dashed with Federal Reserve chairman, Jerome Powell, beating a hawkish drum at the highly scrutinised Jackson Hole Symposium. Powell bluntly warned that combatting inflation would likely “bring some pain to households and businesses”. He also told delegates the central bank would continue to use its tools “forcefully” to bring demand and supply back into balance. This all but confirmed the likelihood of further interest rate hikes for investors where there had previously been some hope that the ceiling of rates may be outlined.
Jackson Hole was a reminder that macroeconomic headwinds are very much the order of the day, which is in stark contrast to much of the last decade where the announcement of difficult news was often balanced by the Federal Reserve printing money or cutting interest rates or bond yields in response. The period we are in is in effect a balance between the more accommodative period we have seen and a more challenging period in terms of economic and price volatility ahead. The Fed will want to be confident that inflation is coming down before it is prepared to stop hiking rates and so could even be tempted to keep raising rates a little longer than it would do historically. Any signs that the economy is proving more resilient will harden its stance on inflation fighting. Perhaps that’s why good news around better than forecast unemployment rates in the US did not prove an effective remedy to the market blues of the past few weeks.
In the UK, at the top of new Prime Minister, Liz Truss’ inbox is the rapidly escalating energy crisis gripping Britain. Russia’s announcement that the Nordstream 1 gas pipeline will not reopen to supply western Europe until sanctions are lifted has also exacerbate problems on the continent. Wholesale energy prices are likely to soar further in 2023. The UK is heavily reliant on gas as a source for electricity generation and gas heats almost 80% of homes. With the risk that millions will be pulled into fuel poverty, Truss is set to announce a £100 billion package to address the crisis by capping household bills, subsidising the wholesale cost of gas via government borrowing which energy providers will repay over the next 20 years. Plans look set to extend to smaller businesses adding significant strain the already creaking HM Treasury coffers. Truss also looks set to reverse the National Insurance rise implemented in April, a significant loosening of fiscal policy and it seems reasonable to observe that investors are worried about the future direction of UK economic policy. The pound was the worst performing major currency during August and gilts were the worst performing quality sovereign bonds, with the 10-year gilt seeing yields rise by a full percentage point. Rising yields do not immediately mean higher borrowing costs for governments but as the government issues new bonds, the costs of those new bonds will reflect the prevailing yield.
To the East, despite plenty of bad news coming from China including a slowing economy and real estate crisis, good news in relation to supporting the economy and tackling the problems is also in abundance. Following a surprise cut in the key policy rate, Chinese banks have lowered their 1-year and 5-year loan prime rate, with the latter being a reference rate for mortgages. With regards to mortgage boycotts, the authorities have announced that special loans will be offered to Chinese property developers to ensure uncompleted projects will be tackled and delivered to home buyers. Furthermore, the State Council outlined a 19-point policy package including a further one trillion yuan of stimulus mid-week, largely focused on infrastructure spending. The policy package will include support to businesses, energy supply, agriculture funding, but most of it will be via infrastructure.
The focus on infrastructure highlights that it is difficult to go beyond the traditional way of stimulating the economy via infrastructure. As long as a stringent COVID-19 policy is in place and confidence on the real estate sector remains poor, these policy interventions may not be enough to defend the growth target of 5.5% this year. Nevertheless, these are clear signs that China is stepping up to address the current real estate crisis, a welcoming development for investors in a period of great uncertainty across the global economy.
Written and prepared for Crowe Financial Planning UK Limited by John Moore (Senior Investment Manager at Brewin Dolphin)