Market Update August 2024

After the Bank of England rate cut to 5% last Thursday, there was subsequently a weak ISM manufacturing print in the US. Not only was the print weaker than expected, but the employment subcomponent was the weakest since the pandemic and pointed towards further job losses. This was compounded by the release of the non-farm payrolls report on Friday. The job increases were below expectations at 114k vs 175k consensus. Furthermore, the downwards revisions to previous months added to the weakness. Consequently, the unemployment rate in the US moved to 4.3% from 4.1% driven in the main by increases in the labour force. Wage growth cooled further to 3.6% YoY, something echoed by the more highly regarded Employment Cost Index earlier this week.

After the Fed opened the door further towards a rate cut in September on Wednesday, Fed Chair Powell reinforced the two-sided risks (inflation and employment) of keeping policy restrictive and effectively nailing on a rate cut in September. At the end of last week, we saw the futures market price in three 0.25% rate cuts for this year, implying a cut at every meeting this year. The latest release has now moved market pricing towards 5 cuts this year with a 0.5% cut priced in for September as of this morning. The next scheduled Fed meeting is in Jackson Hole at the end of August which will undoubtedly be scrutinised closely.

Sentiment has taken a turn in last few days due to the following factors:

1. Concerns about growth in the US – potential recession / employment weakness.
2. AI valuations and whether earnings can support the rich expectations – Mega caps have struggled recently following earnings developments that failed to beat ambitious forecasts, scepticism whether the recent AI business investment boom will lead to the anticipated productivity gains, as well as worries that market valuations of the tech behemoths might turn out overly optimistic amid elevated growth expectations. This has resulted in the performance divergence driven by the concentrated stock market rally YTD reversing somewhat over the last week.
3. Rising geopolitical concerns – rising potential for Israel / Iran conflict and US election uncertainty.
4. Bank of Japan policy surprise – tightening of policy.

Positioning

In terms of portfolio positioning, unlike the market volatility witnessed during 2022, government bonds are acting as a useful diversifier, offsetting equity market falls. Many of the bonds in the portfolio that had offered soft returns year to date have started to perform in the last few weeks. This is pleasing given the very high quality nature of the bonds that are within the portfolios, with a collection of gilts, treasuries and quality strategic bond funds performing well. In addition, absolute return funds with positioning in government bonds and gold have also acted to dampen portfolio volatility. Lastly, the active global ‘quality’ equity funds held are holding up well compared to leading equity indices. It is worth remembering that, compared to the MSCI world index, most passive providers and many peers, the portfolios are underweight the Magnificent 7 which has also helped.

That said, the situation continues to evolve, and we will be keeping a close eye on how the situation plays out. Often sharp equity market falls are followed by sharp increases, as policy makers seek to ‘control’ the situation and market rationality returns. While we cannot guarantee that this will be the case immediately, it is worth remembering that the overall economic situation is fairly robust, despite some fraying around the edges.

Please get in touch if you would like to discuss this further.

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