Last week brought with it some encouraging data on inflation: the US Consumer Price Index had fallen to 5% in March, driven in large part by a drop in the prices of food and crude oil. But core inflation – which excludes volatile energy and food costs – serves as a more structural measure of inflation. And it is this figure upon which the Federal Reserve Bank bases its monetary policy. It rose by an unexpected 0.4% on the previous month, resulting in an annual inflation rate of 5.6%. This is down from last September’s peak of 6.6%, but still a long way north of the Fed's long-term 2% target.
Used vehicle prices appear to have fallen sharply over the month, while upwards pressure from rents seems to have eased. Service prices, on the other hand, remain elevated – particularly in leisure categories (hotels and airfares). Rents, along with house and goods prices should continue to fall over the coming months, which means that inflation is likely to continue on its downward trajectory throughout the year. That said, it's doubtful that the Fed will ease up on its monetary tightening just yet. Indeed, we are predicting a further hike next month. It is, of course, just possible that May will mark a pause in interest-rate rises. The Fed's decisions tend to be data-driven, and all evidence would suggest that its monetary tightening is working.
In the UK, the inflation rate stood at 10.4% in February 2023, up from 10.1% in January. It slipped back to 10.1% in the year to March, but food prices remain stubbornly high, rising at their fastest rate in 45 years. Inflation in the UK seems to be a somewhat thornier problem than it is on the other side of the Atlantic. The markets seem to be predicting a further 0.25 basis point increase on 11 May 2023, with interest rates peaking at around 4.75% by midsummer. They are then expected to fall slowly over the next five years to around 3%.
For months now, the UK has been teetering on the brink of recession – a series of strikes conspired to create zero growth for the month of February. Poor economic data notwithstanding, the government is somewhat upbeat. The Chancellor has recently gone on record with optimistic claims about the economic outlook, pointing to the fact that GDP grew in the three months to February.
But stagflation still seems to be the current backdrop, and the IMF is now expecting the UK to be one of the worst-performing G20 economies this year. It even expects it to be far worse than sanction-hit Russia.
In 2020, the pandemic was behind the UK's first recession since 2009 – it shrunk by 9.9%. This was the biggest annual decline on record. But then it rebounded by 7.5% in 2021 and 4% in 2022.
As far as the UK stock market is concerned, the FTSE 100 Index is up by just over 5.5% for the year to date. Sterling, meanwhile, has rallied against the US dollar by just over 3.5%. Generally speaking, the markets have rallied throughout 2023: the MSCI World Index is up by just over 8.5% in dollar terms and by just under 5% in sterling. More surprising is the fact that Wall Street's NASDAQ 100 Index is up by nearly 20%, as technology stocks continue to rally from their 2022 lows.
Following the deep but brief contraction that resulted from the lockdowns, consumer spending has rebounded strongly over the past couple of years. And now that China has reopened its economy, further consumer spending is expected as travellers take to the skies. The luxury goods sector, meanwhile, continues to prove resilient as affluent consumers channel their money into it. It was worth some US$332 billion in 2022, and is set to grow to around US$430 billion by 2028. A significant share of luxury goods consumers is concentrated in the Asia-Pacific region, and this region is likely to see more growth in the years ahead.
Needless to say, higher inflation and interest rates have put a brake on consumer spending in a number of Western countries, and rising household costs have put a dent in people’s savings. But employment remains healthy: consumers only really tend to stop spending when they think their jobs are at risk.
Inflation and central bank policy have strongly influenced the direction of financial assets over the past year or so. But the geopolitical backdrop should not be discounted either. The Russia-Ukraine conflict continues… and last week North Korea test-fired what might have been a new model of a ballistic missile, creating nervousness in South Korea and Japan.
China, meanwhile, continues to assert itself on the global stage. Chinese Defence Minister Li Shangfu hailed ties with Moscow during a meeting on Sunday with Putin in the Kremlin, while President Xi Jinping made clear China’s position on the war in Europe, Taiwan, and its brokering of a deal to ease tensions between Iran and Saudi Arabia without the involvement of the US.
China wants to create a world in which Beijing and its allies have more diplomatic weight and military might than the US. Xi Jinping believes that the EU can be detached from its close alliance with US. Indeed, he sees his recent meeting with President Macron as a small step towards achieving exactly that.
The first quarter of the corporate earnings season is about to get underway. This will give us some insights into how companies and sectors have fared over the first three months of the year. Now that interest rates and inflation are peaking, the markets are pricing in better times ahead. October 2022 was when the S&P 500 Index bottomed out. Since then, it has rallied by some 15%.
A new bull market could already be underway. That said, many market commentators would prefer to keep their powder dry. But putting your money to work sooner rather than later is invariably a good move, and there are some excellent opportunities to embrace – even if over the short term the markets do not appear to be making much headway. Daily market noise will always offer investors possibilities to pick up bargains along the way.
