This week the interest rate hikes from the Bank of England, European Central Bank and Federal Reserve came in as expected. The Fed further slowed the pace of its rate increases and raised by 0.25%, while the BoE and ECB increased by 0.5%. The ECB stood out for its clear commitment to future rate hikes (although it is slightly later on the curve than the US and UK), but the decisions and the explanations that followed helped to maintain the risk-on mood. Equities rose further and government bonds also rallied as markets believe they can see the end of the hiking cycle.
Investors are looking for the positive in every announcement. However, economic data is not clearly showing that we are certain for a soft landing. Inflation is slowing but remains high and strong labour markets and the return of Chinese growth have the potential to add upward pressure. Meanwhile housing markets and manufacturing output are subdued. Despite huge profits from big oil, updates from Apple, Amazon and Alphabet show corporate earnings are coming under pressure. Hoping for a good outcome is a natural impulse but the current optimism feels overdone.
CENTRAL BANKS: RATE HIKES SLOW AS BANKS WEIGH THE EVIDENCE
The US Federal Reserve increased interest rates by 0.25% while the Bank of England and European Central Bank each increased rates by 0.5%. US Fed chair Jerome Powell appeared upbeat about the US economy and this helped US equities to continue their recent rally. Bank of England governor Andrew Bailey was more cautious and said further rises may be needed if data shows that inflation is going to remain high but gilts rallied strongly and sterling reversed some of its recent gains against the dollar. The ECB was more aggressive and promised a further 0.5% hike at the next meeting in March.
Economic data for the US remains mixed. Core inflation dropped quite sharply in January, but the jobs market remains robust and factory output is declining. The picture for the UK is more one-sided. Company insolvencies have reached their highest since 2009 and the International Monetary Fund predicts the UK will be the only major economy to fall into recession this year. In the Eurozone GDP and inflation were better than expected.
HOUSING: HIGHER BORROWING COSTS ARE PUSHING DOWN PRICES
Housing markets around the world are feeling the effects of rising mortgage rates and lower affordability due to high inflation. Mortgage costs in the UK have recovered slightly after then-chancellor Kwasi Kwarteng’s mini-budget, however, the number of new mortgage applications tumbled to just over 35,000 in December, from 46,000 in November. New loans in the US are still declining and demand for mortgages in Europe has fallen at the fastest pace on record as mortgage rates have increased.
US house prices have fallen for the fifth month in a row and prices in the UK are falling at the fastest rate since the financial crisis in 2008. Prices are also falling in Germany, Denmark, Italy and Sweden and forecasts estimate they will fall by 5% this year. In New Zealand, Australia and Canada rising rates have put housing markets into reverse, with prices expected to fall by up to 20%. Meanwhile, efforts to restore confidence in the Chinese market have so far failed as new home sales in January were 32% below the 2022 level.
EQUITIES: ENERGY STOCKS CONTINUE TO BENEFIT FROM HIGH PRICES
Shell announced profits of almost $40bn as it followed US energy giants ExxonMobil and Chevron by announcing record profits. Shell benefited from the recovery of oil prices following pandemic restrictions and from extremely high gas prices during 2022. Shell announced a further $4bn of share buybacks and said capital expenditure would be maintained. BP reports next week and is also expected to confirm bumper annual profits.
Energy companies account for around 10% of the FTSE 100 and they have been outperforming the broader index for the last 18 months. The return of Chinese demand could help oil prices remain high and gas supplies could be disrupted again next winter. Telecoms companies are showing signs of overcoming some recent difficulties. BT’s revenues fell slightly, but it is confident the upgrade to its broadband network will continued to attract new customers. Vodafone’s UK revenues have increased as prices increased prices faster than inflation and plans to accelerate price increases in Europe were received positively as shares increased.