Central Banks keep rates high, but are cuts on the horizon?

Spotlight: Investing during election years

This year is set to be a significant one for elections with over half the world’s population eligible to vote in both local and national elections in 2024. It’s no secret that for investors and the general public alike, these periods (where the final outcomes are yet unknown but highly speculated on) can cause some anxiety and nervousness as to how markets might react. With a hyperfocus on the impact for the economy and businesses, some market fluctuations around election periods are expected.
 
In 2024 for the US, UK and parts of Europe, these elections could lead to changes in policy. Specifically with the US, given its extensive global influence and stock markets that make up close to 70% of shares traded globally, the outcome in November is undoubtedly a very hot topic. Investing during an election period and the speculation and attention it raises is often centred around the individuals in the race and their respective parties. A question that may arise during US election periods is: do markets perform best with a right or left-leaning party? The most noticeable impact on long-term stock market returns is the policies that follow the outcome – specifically fiscal (government spending and taxation) and sector-specific policy. What’s more, the US judicial system works in such a way that both the President (who has more influence in sector/industry policymaking) and Congress (made up of Senate and House seats who govern monetary policy decisions) must work in tandem before any new legislation is passed and brought into effect - both of which are up for re-election in November. In answer to the above question, history indicates that regardless of a left or right win, there is little difference to the performance of long-term stock market returns. Interestingly, looking closer to home at the UK, the past 16 general election results show on average UK markets have reacted more positively over the full term after a change in government than when the existing party maintained their leadership (source: Russ Mould, AJ Bell).
 

 
Ultimately markets are likely to do what they have always done over the long-term - continue to rise and fall periodically. This is why having a diversified investment strategy that doesn’t rely too heavily on a specific country, industry sector or company, is a sensible approach to investing. Exposure to global equity markets can make coping with the ‘noise’ in markets caused by elections in specific countries easier and helps avoid a short-term focus. Navigating investing during election years with a cool head will help to maintain and refocus the lens on long-term financial goals.

The Noise

• The US Federal Reserve voted to keep its policy rate steady this week at 5.25% to 5.5%. Crucially, Federal Reserve Chair Jerome Powell said that interest rates had peaked and would move lower in coming months in a strong endorsement of the US economy’s strength. Inflation continues to fall while the outlook for sustained job and economic growth remains strong, but Powell poured cold water on the idea that rates would fall at the next Fed meeting in March. He reiterated the point that the Federal Reserve’s conviction that inflation was moving down towards its 2% target was not sufficient for a rate cut to be appropriate, but otherwise delivered good news on the state of the US economy. Following the announcement, the dollar rose against a basket of currencies, while US Treasury yields dropped as did US equities.

• British lenders approved the most mortgages since June in December according to Bank of England data, contributing to growing signs that the impact of elevated interest rates on property transactions is gradually subsiding. Just under 50,500 mortgages for home purchase were approved in December, up from 49,300 in November but below economists’ forecasts of 52,500. Though the influence of high interest rates will continue to impact existing borrowers, the average interest rate for new mortgages dropping in December for the first time since November 2021 could start a wave of increased new borrowing.

• Chinese property giant China Evergrande Group were ordered to liquidate by a Hong Kong court this week, after it was unable to offer a suitable restructuring plan. The decision to liquidate the world’s most indebted property developer comes two years after it defaulted on its offshore debt and deals a new blow to China’s struggling property sector. The likely long and complicated liquidation will be closely watched by offshore investors, who will be focused on how Chinese authorities treat foreign creditors when a company fails. Following the liquidation decision this week, Chinese authorities have introduced a new string of measures that will look to help revive the property sector, which currently accounts for a quarter of China’s GDP. Home-buying restrictions have been eased in Suzhou and Shanghai, while “project whitelist” will help local property projects meet their financing needs.
   

​The Numbers

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The Nuance

The Bank of England (BoE) held interest rates at a nearly 16-year high this week at 5.25%, but introduced the prospect of cutting them should inflation continue to fall. BoE Governor Andrew Bailey commented that inflation was “moving in the right direction”, and the central bank abandoned prior caution that rates could rise again, saying instead that borrowing costs would remain “under review”. Two members of the BoE’s Monetary Policy Committee voted in favour of a rate hike, while six wanted to keep rates unchanged. Significantly, for the first time since 2020, one member voted in favour of a rate cut. It was also the first time since 2008 that the Monetary Policy Committee had votes for both rate cuts and hikes in the same meeting.

The Pound erased losses earlier in the week against a basket of currencies following the interest rate decision. The market’s conviction behind 2024 BoE rate cuts fell, though is still forecasting four reductions for the year. Governor Bailey reiterated it was too early to declare victory and getting inflation down to its 2% target would not be “job done”, as prices are expected to grow later in the year. But he said there was a shift in the BoE’s thinking.

Looking ahead to the rest of the year, many major central banks are now signalling that interest rates have reached their peak and will likely start to move down in the coming months. All eyes are on inflation, as central bankers remain cautious in declaring victory over what has been a two-year battle for many.

 

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