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Church House Investment Management: UK Market Analysis – September 2022

Please see the below article from Church House Investments, providing analysis of the key factors currently impacting markets. Received yesterday – 14/09/2022

Have you ever slogged your way up a large hill and reached what you thought was the summit, only to discover that this was a false horizon and that you will have to push on higher? This is how markets felt in August.

After a rotten first six months of the year, there was a brief moment of respite when it looked as if the worst of the pain might have been felt with the panic sell-off in June and that things were at least not getting any worse than feared. This was swiftly extinguished by Putin turning off the gas taps to Europe, seemingly permanently this time, and Jay Powell (Chair of the Fed) flagging ongoing sharp interest rate increases at his Jackson Hole keynote address. Risk assets, from equities, to debt and most else in between, fell back again in late August and investors were again left licking their wounds.

Fundamental to weak equity markets in 2022 has been the weakness of sovereign and corporate debt markets. Gilt yields (that move inversely to their price) have tripled in 2022 and now stand at over 3%, levels not seen for any meaningful period since pre-2012 (remember that golden Olympics?). Falling prices of (theoretically) risk-free UK Government bonds (no comment on our new PM’s fiscal promises!) are always going to have a negative effect on assets higher up the risk spectrum, from corporate bonds, right the way up to small-cap equities (at the top of the risk scale). Sovereign bonds yields are unlikely to steady until the market feels that it has a handle on inflation and the path of interest rates. This is not to say that investors need (or could ever have) certainty on the path of inflation and rates, but the negative surprises need to stop coming.

In the midst of all this doom and gloom I am going to be controversial and give some points for optimism. Firstly, one has to suspect that with Nord Stream now fully shut down, Putin has played his ace card. Of course, he can continue to commit atrocities in Ukraine, but short of invading another European nation or threatening nuclear war, Putin’s power to hurt a Western world that has severed all possible ties with Russia has to be past its peak.

Secondly, the ex-Putin contributing factors to rising inflation are showing signs of calming. Anyone who has filled their car up recently will be relieved that the oil price has begun to retreat, while the price of industrial metals such as aluminium, iron ore and copper are sharply lower in the last six months. Shipping still takes longer than pre-pandemic, but the bottleneck is clearing – the time it takes to ship cargo across the arterial China-US route has fallen in 16 of the last 17 weeks. Cheaper commodities and quicker shipping should help to ease input cost inflation which, in turn, will reduce pressure to increase prices to the end consumer. All of this will take time to wash through and there is no hiding from the pain that high energy bills will cause to consumers this winter, but one look at the BBC News website will tell you that this is already widely known and priced into asset prices.

Market confidence is fragile and investors remain jittery. Despite significant declines in equity valuations across the board, few buyers have put their head above the parapet. However, it is interesting to see that some enterprising investors have stepped in recently, particularly in the UK technology sector, where valuations had reached notable lows. Over the last few weeks we have seen private equity bids for three UK-listed technology businesses: Aveva, Micro Focus and GB Group. While we were not shareholders in any of these businesses, we found these bids heartening vindication that all is not lost and that there are bargains to be had amidst the overwhelming negativity. At Church House we focus on the fundamentals of individual businesses, looking for unique companies that we believe can grow at steady rates over the long-term. From time-to-time fear will prevail in markets and we get opportunities to invest on behalf of our clients in such outstanding businesses at more than reasonable prices – now appears to be just such a time.

Please continue to check our blog content for advice and planning issues from us and leading investment houses.

Alex Kitteringham

15th September 2022

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Weekly Market Commentary – Nord Stream 1’s closure has led to volatility in the European energy market

Please find below, a weekly market commentary received from Brooks Macdonald yesterday afternoon – 12/09/2022

  • Central banks continue to dominate sentiment with the ECB raising rates by 75bps and bond markets expecting a similar move from the Fed
  • Nord Stream 1’s closure has led to volatility in the European energy market however prices fell last week as investors positioned for government intervention
  • The US CPI release on Tuesday will be a key input into the Fed’s interest rate policy decision next week

Central banks continue to dominate sentiment with the ECB raising rates by 75bps and bond markets expecting a similar move from the Fed

Central banks remained in focus last week as Federal Reserve (Fed) Chair Powell reinforced his hawkish message, saying that he was entirely focused on fighting inflation. These words impacted bond markets with a 75bp rate hike almost entirely priced in for the Fed’s September meeting. The European Central Bank (ECB) meanwhile raised interest rates by 75bps with President Lagarde noting that inflation was ‘far too high’ and that policy needed to tighten substantially. Despite this, equities performed well, mostly as prior trading weeks had come to terms with the reality that hawkish central bank rhetoric appears to be here to stay for the short term.

Nord Stream 1’s closure has led to volatility in the European energy market however prices fell last week as investors positioned for government intervention

With European energy markets still reacting to the closure of the Nord Stream 1 pipeline, EU energy ministers met on Friday to start forming a plan to help mitigate the energy price surge. Ministers pointed to a large range of tools that they could use to bring price levels under control. Markets were impressed by their fervour, driving European natural gas futures down over 6% on Friday. Over the weekend, the news that Ukrainian forces had successfully executed a counter offensive in the Northeast of Ukraine was welcomed by market participants. With Nord Steam 1 closed, the relative balance of power in the Ukraine War is arguably even more important for investors. Of course, progress by Ukrainian forces does risk a more aggressive escalation by Russia however equities have initially taken this positively.

The US CPI release on Tuesday will be a key input into the Fed’s interest rate policy decision next week

This week’s highlight is likely to be the US Consumer Price Index (CPI) report on Tuesday which will be front and centre of the Fed’s mind when they meet on 21st September. The market is expecting US Core CPI to actually increase year-on-year from 5.9% to 6.1% as housing costs continue to push up the core figures. By contrast, the fall in energy costs in recent months is expected to lead to a substantial fall in headline CPI with the annual rate moving from 8.5% to 8.1%. The month-on-month figure is expected to show a -0.1% decline, reflecting the sharp fall in US gas prices as well as global oil benchmarks.

Given the proximity of the Fed meeting, US central bank speakers are in the communication blackout window meaning that we will have little live reaction to the CPI print. That said, with investors very conscious of the sustained hawkish drumbeat of recent weeks, market pricing will quickly swing based on the CPI report.

Please continue to check our Blog content for advice and planning issues and the latest investment, markets and economic updates from leading investment houses.

David Purcell

13th September 2022

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Global Markets: Seven issues to watch in September

Please see the below article from Invesco highlighting the key factors currently influencing global markets. Received yesterday afternoon – 07/09/2022

So much has happened in recent days that it’s hard to know what’s most important to follow this week. Following are a few thoughts on what I’ll be looking at most closely:

1. Europe’s response to a natural gas cutoff

European Union (EU) member states have been frantically building energy reserves in advance of winter, working toward EU targets of at least 80% storage capacity by Nov. 1. However, last week Russia announced it would not be reopening the Nord Stream I pipeline (which had been temporarily shut down for repairs), throwing a wrench into those plans. Russia has clarified that gas supplies will not resume until anti-war sanctions are lifted, so Europe will have to get through the winter without Russian gas (unless plans to continue supporting Ukraine change considerably). While reserves have been built up in some large EU member states well ahead of schedule — with storage capacity at the EU level at 80% as of the end of August — that only covers approximately 20% of average annual usage, which is concentrated in winter. If this winter is relatively cold, this latest action by Russia takes Europe to the verge of a supply shock possibly of a similar magnitude to the Arab and Iranian oil embargoes of 1973 and 1979, respectively.

Despite Brexit, the UK is in no better position than the rest of Europe. The UK has virtually no storage and is integrated into the EU pipeline network as a transit hub for Norway’s gas and US/MENA (Middle East and North Africa) liquefied natural gas (LNG).

This shifts the focus to substitutes for Russia’s natural gas. The good news is that Germany’s construction of two LNG terminals is expected to be completed this winter. It is estimated that these two facilities could provide about 60% of what had been the recent flow coming from the Nord Stream I pipeline, which was only about 20% of capacity. There is also the potential to increase natural gas imports from Norway. In addition, Germany just announced it will be keeping its nuclear plants open in the coming year in order to help provide energy during this crisis.

However, finding substitutes for Russian natural gas will only alleviate some of the pressure created by the natural gas cutoff. This crisis also has the potential to create more political division, calling into question ongoing European support for Ukraine. Over the weekend, approximately 70,000 protesters gathered in Prague to protest high energy bills and demand an end to sanctions against Russia over the war in Ukraine.

2. European Central Bank meeting

Since mid-August, the overnight index swaps (OIS) market has been pricing in a more hawkish monetary policy stance by the European Central Bank (ECB). The OIS market now expects cumulative ECB policy rate hikes for 2022 and the first half of 2023 to be 125 basis points higher than anticipated at just the beginning of August. Although the OIS market tends to overestimate rate hikes, this large movement reflects a sizable change in market expectations. It appears that various hawkish comments made by a number of ECB officials moved market expectations, including those by Isabel Schnabel, a member of the ECB Executive Board, at Jackson Hole in late August.     

This hawkish stance by the ECB has had a considerable impact on global markets. It has resulted in higher bond yields across the Euro Area but also has arguably contributed to a rise in the US 10-year bond yield — along with Federal Reserve Chair Jay Powell’s own hawkish comments. The entrenchment of hawkishness across major central banks has in turn exerted downward pressure on global technology stock prices.

The stakes are high. The last two times the ECB hiked into rising headline inflation led by energy, in 2008 and again in 2011, were arguably among the most detrimental policy errors by a major central bank ever. The first precipitated the eurozone financial crisis; the second exacerbated it, almost blowing up the financial system and the euro, in my view. The inflation measure that the ECB targets is headline Harmonised Index of Consumer Prices (HICP) inflation, but it has paid closer attention to core HICP since Mario Draghi’s presidency, at least in part because core HICP argued against raising rates in 2008 and more so in 2011.

Today, core HICP is rising sharply, which does not help ECB doves. Not surprisingly, ECB hawks are advocating for a 75 basis point hike due to high, rising inflation and tight labor markets. However, the eurozone economy is very vulnerable. S&P Global recently sounded an alarm on the eurozone economy, especially the buildup in inventory: “The euro area’s beleaguered manufacturers reported a further steep drop in production in August, meaning output has now fallen for three successive months to add to the likelihood of GDP (gross domestic product) falling in the third quarter. Forward-looking indicators suggest that the downturn is likely to intensify — potentially markedly — in coming months, meaning recession risks have risen. Falling sales have not only led increasing numbers of factories to cut production but have also meant warehouses are filling with unsold stock to a degree unprecedented in the survey’s 25-year history. Similarly, raw material inventories are accumulating due to the sudden and unexpected drop in production volumes. Weak demand and efforts to reduce high inventory levels are therefore combining to drive production lower in the months ahead ….”

Needless to say, we will be waiting with bated breath for the ECB’s decision this week.

3. The new UK prime minister and sterling

There has been a relatively high level of uncertainty around newly minted UK Prime Minister Liz Truss, given her change in political ideologies over time as well as her changing position on several issues since becoming a leading contender for prime minister. There is particular uncertainty around the Bank of England in a Truss government, given her comments about revisiting and potentially altering the central bank’s mandate. There’s also concern that she might confront the EU by suspending the Northern Ireland protocol in the Brexit trade agreement.

However, what we have heard most recently is somewhat more encouraging for markets: that Truss believes in the independence of the Bank of England, and that her government is preparing to provide $170 billion in fiscal stimulus to help alleviate the pain being caused by rising energy prices to consumers and small businesses. This stands in contrast to previous statements articulating a preference for tax cuts over aid— although tax cuts may also remain in the mix. Sterling has weakened significantly this year, although against the backdrop of US strength against most major developed and emerging market currencies. Sharpening clarity on Truss’ policies could see sterling reverse some of its losses.

That said, such a strong effort at fiscal support — which may be necessary given the cost-of-living crisis — would take place amid super-tight labor markets (UK unemployment is in low single digits; supply challenges due to the energy crisis, Brexit, labor shortages; and inflation already in the double-digits; and enlarged budget and external current account deficits). This substantial fiscal stimulus could mean the Bank of England may have to tighten more than otherwise and may have difficulty bringing inflation back down towards target. Sterling and UK domestic-facing assets could continue to underperform other major markets as a result.

4. China stimulus

China’s latest COVID wave has led to greater stringency, including some forms of lockdown, in cities such as Chengdu and Shenzhen. So far, the impact to economic activity seems much smaller than what we saw in the first half of the year as policymakers try to balance economic considerations along with virus control.

While the risk of another economic downturn has risen, so have stimulus measures. We anticipate more pro-growth policies could be announced as we get closer to the Party Congress, and we expect that could lead to a Chinese stock market rally.

5. The yen

The Japanese yen has fallen below 140 per US dollar for the first time in nearly 25 years. This is mainly a result of the strong US dollar. However, the Bank of Japan (BoJ) has been steadfast in not raising rates, as central banks around the world have been tightening monetary policy (the Reserve Bank of Australia just raised rates by 50 basis points). Financial firms’ forecasts for the yen are being revised down, as more erosion is anticipated. This seems likely to be reversed only if BoJ officials were to signal a change to policy, and that seems unlikely at this juncture given what Governor Haruhiko Kuroda has communicated thus far. In addition, there are certainly some benefits to Japan’s economy from a weaker currency.

6. Bank of Canada decision

The Bank of Canada (BoC) meets this week for the first time since its somewhat shocking decision in July to raise rates by 100 basis points. Despite high inflation, Canada’s economy is quite strong — far less vulnerable than the eurozone or UK economies — and so a substantial rate hike is likely to be well tolerated, in my view. Consensus expectations are for a 75 basis point rate hike, and that seems appropriate given conditions in Canada, as well as BoC governor Tiff Macklem’s desire to “front load” rate hikes.Hiking 175 basis points in two months is a lot, however, and given that the goal is “front loading,” I can’t help but wonder if the Bank of Canada will make a “subtle pivot” to a less aggressive path in subsequent meetings. We can look for clues coming out of this meeting, especially a focus on being more data dependent.

7. Copper prices

Finally, I think “Dr. Copper” has historically been a relatively reliable leading indicator of slowdowns, recessions, and expansions. Copper prices have been falling since their recent peak last March, under pressure because of reduced demand from China and a general tightening of financial conditions globally. If copper prices continue to decline, it could signal a major global slowdown is in the offing (although it is worth noting that any drop in commodity prices can also be a positive in this environment given that it can alleviate inflationary pressures.) We will want to follow prices closely for clues on the magnitude of the economic slowdown.

Please continue to check our blog content for advice and planning issues from us and leading investment houses.

Alex Kitteringham

8th September 2022

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Truss confirmed as new PM

Please find below, an insight into Liz Truss becoming PM received from Brewin Dolphin yesterday evening – 05/09/2022

Following the news that Liz Truss will become the next prime minister of the United Kingdom, Guy Foster, our Chief Strategist, looks at what this means for investors.

Despite not being the favoured candidate among Conservative MPs, Liz Truss has been the frontrunner since the contest was put to the party membership as a straight choice between the foreign secretary and the former chancellor, Rishi Sunak.

The two candidates have been campaigning at hustings events for the last five weeks, with the debate frequently becoming fractious between the two.

Both had talked of their ambitions for growth based on lower taxes.

However, there were some clear dividing lines, particularly with their proposed approaches for managing the cost[1]of-living crisis. Truss has argued for tax cuts immediately while Sunak prioritised curbing inflation first. Both would have needed to adjust their plans in light of the latest increases in gas prices and the prospect of real social unrest this winter.

All incoming prime ministers presumably have a pretty full inbox when they arrive, but this seems particularly the case this time around. As a result, much attention has been focused on the candidates’ statements around the financial support they would offer if they became prime minister.

Truss had said she would hold an emergency budget in September, but that has subsequently been relabelled as a fiscal event where she is nonetheless expected to deliver some of her core tax commitments.

Tax cuts?

There have been a number of tax cut proposals floated over the course of the campaign. Two of the most notable include reversing her rival’s increases to national insurance (the health and social care levy) that was introduced in April, and cancelling the planned increase in corporation tax to 25% that had been due to come in from April 2023.

Alongside those, there have also been pledges to cut fuel duty and suspend the green energy levy, as well as less specific plans to support people with energy costs through the winter. These suggestions are all designed to put more money back in people’s pockets.

None of these pledges will come cheap; the first two alone are forecast to cost almost £28bn by 2023-241.

Truss also considers that the tax system would be fairer if households were treated as a single tax entity; this would reduce the tax burden on those providing unpaid care, but might incentivise people to leave low paying jobs.

Of course, we will have to wait and see what changes the new prime minister chooses to make once she has her feet under the desk – the economic choices that need to be made may seem less palatable than when discussed on the hustings.

The impact on investors

It’s important to remember that the performance of the UK economy is usually relatively muted in its impact on investment portfolios. Most large UK companies are not particularly exposed to the UK economy, being more multinational in nature. For the largest companies, their country of listing is almost a historical accident.

However, some companies do have a specific UK focus, particularly supermarkets and some other retailers as well as some financial companies.

As you move further down the size spectrum, many mid and smaller sized companies will be progressively more exposed to their local market. If investors believe UK consumers will find life hard (as they do) then they will value companies selling to those consumers a little less generously.

 And there are additional effects too, as most UK investments will be affected to some extent by the outlook for the pound and interest rates.

In the run up to the result, the pound has been very weak.

That reflects the particular challenge the UK is facing in terms of soaring inflation, most notably from rising energy prices. The most dramatic weakness has been relative to the dollar, but that is a reflection of dollar strength as much as sterling weakness. Recently though, the pound has been underperforming the euro as well and that should be concerning for Truss, because the pound weakened as her likelihood of winning increased.

Similarly, government borrowing costs, which were rising as a result of the steeper trajectory of UK interest rates, seemed to rise faster as a Truss victory became more likely.

The new prime minister has successfully convinced the Conservative membership she is the right person for the job, but delivering on her promises will be difficult.

She has already been accused of designating the presentation of her economic plans as a fiscal event, rather than a budget, because that will avoid the need for the Office for Budget Responsibility (OBR) to scrutinise them. The markets, however, are passing judgement on them already.

The good news is that the pound’s weakness has been a benefit for the majority of UK companies who earn their revenue in foreign currencies. It has been a bigger benefit for overseas equities within client portfolios.

It does make holding longer-dated UK government bonds risky if, as Sunak has suggested, the UK were to lose the confidence of the markets. However, the chances of a default on a UK government bond are virtually nil because the central bank can print its own currency.

While shorter-dated government bonds anticipate future increases in interest rates and so are already providing a more attractive yield than is available in bank accounts, a quirk of the pandemic-era issuance means that, for many UK taxpayers, holding short-dated government bonds as a savings instrument is often hugely preferable to keeping cash in deposits.

The importance of the markets

The UK has a history of being unable to follow through on some policies because of the market’s reaction. One of the most notable examples was its withdrawal from the exchange rate mechanism, which ended up being economically advantageous for the economy.

Famously James Carville, economic advisor to Bill Clinton, once said: “I used to think that if there was reincarnation, I wanted to come back as the president or the pope or as a .400 baseball hitter. But now I would like to come back as the bond market. You can intimidate everybody.”

The new prime minister will need to have a policy agenda which appeals to her MPs, their voters, and eventually the OBR, and is at least tolerable for the markets.

The implications for portfolios are that we could see further weakness in bonds and the pound until the market builds confidence in the new prime minister. We protect against the weak pound by holding overseas securities. Weaker bonds are a more immediate threat and so we are cautious on this part of the market. However, the weaker they become, the higher the yields they will offer for the future.

Please continue to check our Blog content for advice and planning issues and the latest investment, markets and economic updates from leading investment houses.

David Purcell

6th September 2022

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Brooks Macdonald – Daily Investment Bulletin

Please find below, a Daily Investment Bulletin received from Brooks Macdonald this morning – 19/08/2022

What has happened 

Amidst a quieter day for equities and bonds, European and US equity markets managed to hold on to small gains as bond yields remained steady despite a large volume of central bank speak.

 Ukraine war 

There were some progress around peace negotiations between Russia and Ukraine yesterday with Turkey playing the role of intermediary between the two parties. Alongside President Zelenskiy and President Erdogan, UN Secretary General Guterres joined the talks in Lviv. Turkey are now set to consider launching talks with President Putin as reports suggested that both sides were open to establishing diplomatic channels albeit via the proxy of Turkey for the time being. 

Central banks 

The ECB started the day with some more hawkish speakers setting the tone. ECB board member Schnabel began, suggesting that inflation may continue to rise in the short term and that the ECB’s view of inflation risks is yet to change as ‘I do not think this outlook has changed fundamentally’. It was a similar tone from the ECB’s Kazaks who said that the ECB will ‘continue to increase interest rates’ to bring inflation expectations under control. The market is pricing in 50bps of ECB rate rises at the next meeting in September. Over in the US, there was a range of opinions on the next steps for Fed interest rates at the September meeting. President Daly backed a 50bp move whilst President Bullard supported 75bps and President George spoke more of the risks of inflation complacency. President Kashkari discussed the possibility of a soft landing, admitting that he didn’t have a high level of confidence that the Fed would be able to achieve that nirvana. 

What does Brooks Macdonald think? 

The tone from both the ECB and Fed were similar yesterday, a reiteration of the need to bring inflation under control and a willingness to hike rates to achieve that outcome. Of course, their domestic inflation and economic paths are likely to be very different therefore the Fed’s desire is probably more focused on convincing the market that future inflation expectations should be close to target. The next major central bank event will be the Jackson Hole symposium next week with Fed Chair Powell speaking on Friday.

Please continue to check our Blog content for advice and planning issues and the latest investment, markets and economic updates from leading investment houses.

David Purcell

19th August 2022

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Brooks Macdonald – Daily Investment Bulletin

Please find below, the Daily Investment Bulletin received from Brooks Macdonald this morning – 11/08/2022

What has happened

 Risk appetite was emboldened by one of the largest downside misses to headline CPI in recent history. The equity gains were broad-based with cyclical sectors and technology shares leading the charge as investors wagered that the Fed would need to be less aggressive on monetary policy.

 US CPI Report

 US headline CPI came in at 8.5% year-on-year against expectations of a 8.7% increase and a 9.1% reading for June. If you zoom into the detail, the monthly change was actually negative at -0.02% which is the first monthly fall in over 2 years. As expected, the main driver of this was decline in energy prices and specifically gasoline which was -7.7% lower over the month alone. Core inflation was expected to rise on a year-on-year basis but actually stayed flat at 5.9%, further helping to boost sentiment. Whilst some of the more volatile components of the CPI readings are showing signs of peaking, broad inflationary pressures undoubtedly remain and will take time to filter through to lower median CPI. The Atlanta Fed divides up CPI into ‘flexible’ and ‘sticky’ elements and whilst the flexible reading fell sharply last month, the sticky reading actually saw gains. Words of slight caution but this is unlikely to deter the market which is very much in risk on mode.

 Fed reaction

Bond markets moved quickly to reduce the probability of a 75bp rate hike at the September Fed meeting, with the futures market pricing in a coin toss between that and a 50bp hike. 10-year Treasury yields also fell initially however more hawkish Fed speak ultimately led to the benchmark yield broadly flat for the day. Chicago Fed President Evans said that inflation remained ‘unacceptably high’ and forecast that ‘we will be increasing rates the rest of this year and into next year’. President Kashkari said that he expected a 4.4% Fed interest rate at the end of next year and stressed the commitment of the Fed to bringing down inflation.

 What does Brooks Macdonald think?

 The Fed reaction, warning against inflation complacency, makes absolute sense. The Fed cannot afford for market or consumer inflation expectations to start to rise again after the recent falls. For the time being, investors are happy to look through the more hawkish messaging, expecting this to reversed as we enter 2023 and recessionary risks rear their heads. With central bank forward guidance seemingly dead for the rest of 2022 at the very least, inflation data remains the key determinant of market sentiment, on that basis yesterday is undoubtedly a strong positive for risk assets.

Bloomberg as at 11/08/2022. TR denotes Net Total Return

Please continue to check our Blog content for advice and planning issues and the latest investment, markets and economic updates from leading investment houses.

David Purcell

11th August 2022

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Brewin Dolphin – Markets in a Minute

Please find below, a market update received from Brewin Dolphin yesterday evening – 02/08/2022

Strong tech earnings boost investor sentiment

Equities rose last week as strong second quarter earnings from technology giants Amazon, Apple and Alphabet boosted investor sentiment.

US indices managed to shrug off news of a contraction in US gross domestic product (GDP) and another 75-basis point (bps) interest rate hike. The S&P 500 gained 4.3%, the Dow rose 3.0% and the Nasdaq surged 4.7%.

The pan-European STOXX 600 and the FTSE 100 advanced 3.0% and 2.0%, respectively, after data showed the eurozone economy expanded by more than expected in the second quarter.

In contrast, Japan’s Nikkei slipped 0.4% after the government downgraded its forecast for economic growth in the fiscal year ending March 2023 from 3.2% to 2.0%, citing slowing overseas demand and rising consumer inflation.

China’s Shanghai Composite eased 0.5% as a high-level meeting of the Communist Party omitted mention of its GDP growth goal and instead said China should “strive to achieve the best possible results”.

 Last week’s market performance*

• FTSE 100: +2.02%

• S&P 500: +4.26%

• Dow: +2.97%

• Nasdaq: +4.70%

• Dax: +1.74%

• Hang Seng: -2.20%

• Shanghai Composite: -0.51%

• Nikkei: -0.40%

*Data from close on Friday 22 July to close of business on Friday 29 July.

US indices fall after best month since 2020

After July proved to be their best month since 2020, US indices fell on Monday (1 August) as investors feared US House speaker Nancy Pelosi’s potential visit to Taiwan could worsen tensions between China and the US. The S&P 500 slipped 0.3%, the Nasdaq lost 0.2% and the Dow shed 0.1%. Asian stocks suffered on Tuesday, with the Shanghai Composite and Hang Seng down 2.3% and 2.4%, respectively, after Beijing reportedly said it would retaliate with “forceful measures” if the trip goes ahead.

In economic news, data from S&P Global showed UK manufacturing output contracted for the first time in over two years in July because of reduced intakes of new work, weaker market demand, difficulties in sourcing components and transport delays.

The FTSE 100 was up 0.1% at the start of trading on Tuesday, while the Dax opened 0.6% lower.

US slips into a technical recession

Figures released last week showed the US economy shrank for a second consecutive quarter, meeting one of the most common criteria for a technical recession. GDP shrank by an annualised 0.9% in the second quarter, following a 1.6% contraction in the first quarter, according to the Commerce Department. Economists polled by Reuters had forecast GDP would rebound at a rate of 0.5% in the second quarter.

While back-to-back quarterly GDP contractions meet one definition of a recession, the National Bureau of Economic Research is responsible for making the official call on whether the economy is in a recession. One of the factors it looks at is employment, which remains strong.

Treasury secretary Janet Yellen stated last week: “Most economists and most Americans have a similar definition of recession: substantial job losses and mass lay-offs, businesses shutting down, private-sector activity slowing considerably, family budgets under immense strain. In sum, a broad-based weakening of our economy. That is not what we’re seeing right now.”

Fed hikes rates by another 75bps

The US Federal Reserve approved its second consecutive 75bps interest rate hike last week, taking its benchmark rate to a range of 2.25-2.5%. Investors were largely expecting the move and were cheered by relatively dovish comments by Fed chair Jerome Powell that future rate increases would depend on the data.

“As the stance of monetary policy tightens further, it likely will become appropriate to slow the pace of increases while we assess how our cumulative policy adjustments are affecting the economy and inflation,” he said.

Tourism boosts eurozone economy

In the eurozone, a surge in tourism helped the economy expand by more than expected in the second quarter. According to Eurostat’s preliminary flash estimate, GDP grew by 0.7% when compared with the previous quarter, much higher than the 0.1% growth forecast by economists. France, Italy and Spain all saw an expansion in GDP, whereas Germany’s economy stagnated.

Inflation in the eurozone is expected to hit a new high of 8.9% in July, up from 8.6% in June, driven by price rises in energy and food. There are concerns this could lead to interest rate rises and weigh on growth during the second half of the year. There are also fears that a reduction in gas flows through the Nord Stream 1 pipeline from Russia to Germany could spark a recession.

Elsewhere, the European Commission’s economic sentiment indicator for the euro area fell from 103.5 in June to 99.0 in July, below its long-term average. Industrial confidence fell by 3.5 points, while sentiment in the services sector declined by 3.4 points.

UK consumer borrowing doubles

Here in the UK, data from the Bank of England showed consumers borrowed a net £1.8bn in June, double the £0.9bn in May, most of which was on credit cards. The annual growth rate for consumer credit rose to 6.5%, the highest level since before the pandemic.

The figures have raised concerns that people are resorting to borrowing to fund the rising cost of living. Gas and electricity bills for some of the most vulnerable households could reach an average of £500 a month in January, according to BFY Group, an energy management consultancy.

Please continue to check our Blog content for advice and planning issues and the latest investment, markets and economic updates from leading investment houses.

David Purcell

3rd August 2022

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Weekly Market Commentary – Market shifts focus to Europe

Please see below, a weekly market commentary received from Brooks Macdonald yesterday afternoon – 25/07/2022

  • Europe was in focus last week with Nord Stream 1’s reopening, Italian elections and the European Central Bank’s (ECB) hike all competing for attention
  • This week the US Federal Reserves’ (Fed) meeting and US Q2 Gross Domestic Product (GDP) will set the tone as we close out a volatile July
  • US and European earnings ramp up this week with the majority of companies beating expectations so far

Europe was in focus last week with Nord Stream1’s reopening, Italian elections and the ECB’s hike all competing for attention

Economic growth expectations remained a key driver of market moves last week with weaker data continuing to paint a picture of a slowdown in the US and the rest of the world. As a result bond yields fell, helping growth focused equities outperform already strong gains within the European and US stock markets.

Last week was dominated by European headlines, be those around the resignation of Italy’s Prime Minister, the restarting of the Nord Stream 1 pipeline or the ECB which scrapped its forward guidance in favour of a 50bp hike1 . This week the US will be in focus with the Federal Reserve concluding its rate setting meeting on Wednesday where it is widely expected to hike rates by 75bps2. Investors will be looking at how Fed Chair Powell balances the inflation risks with economic growth risks particularly given the weaker initial jobless claims of recent weeks which suggests a deterioration in the employment outlook. With the market now pricing in a change in tone at the Fed at the start of next year, with subsequent interest rate cuts, how the Fed addresses this elephant in the room is arguably more important than the size of Wednesday’s hike.

This week the US Fed’s meeting and US Q2 GDP will set the tone as we close out a volatile July

With recession fears remaining central to market moves, investors will also be watching the US GDP number on Thursday, which if negative means the US has entered a technical recession after contracting in Q1 of this year. It is worth stressing the technical nature of this recession, should it occur, given Q1 US GDP was driven lower by global factors rather than US factors. Equity markets are likely to look through such an outcome however it may have second order impacts on consumer demand should it solidify consumer negativity about future economic growth.

US and European earnings ramp up this week with the majority of companies beating expectations so far

All of this alongside a bumper week for US and European earnings means that the week will be a fitting end to a volatile July. So far in the earnings season, around 20% of US companies have reported with the majority beating earnings expectations. Many companies have painted a more cautious picture of 2023 however this largely chimes with the market’s broader macroeconomic thinking and therefore has been accepted by investors without too much concern.

Economic indicators (week beginning 18 July)

Economic indicators (week beginning 25 July)

Asset Market Performance

Please continue to check our Blog content for advice and planning issues and the latest investment, markets and economic updates from leading investment houses.

David Purcell

26th July 2022

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AJ Bell Lifetime Allowance Blog

An educational article received from A J Bell today:

Help, I’ve nearly breached my lifetime pensions allowance and my 75th birthday is near

Thursday 21 Jul 2022 

I turned 70 last month and haven’t yet started taking an income from my pension. My fund enjoyed 20% growth last year and as a result I’m perilously close to the lifetime allowance. I’m thinking about withdrawing some money from my SIPP and putting it in an ISA to keep below the lifetime allowance as my 75th birthday approaches. Is this sensible?

Robert

As with many things in this complicated part of pensions, the answer is ‘it depends on your circumstances’.

The lifetime allowance, currently set at £1,073,100, is designed to limit the amount you can save tax-efficiently in UK pensions. If you breach your lifetime allowance you will pay a lifetime allowance charge on the excess.

This lifetime allowance charge will be:

25% if you leave the excess in your pension and take it as an income, with income tax levied on top of that;

55% if you take the excess as a lump sum, with no income tax due.

There are a number of ‘benefit crystallisation events’ that trigger a lifetime allowance test, including taking your 25% tax-free cash, buying an annuity or entering drawdown.

There is also a test at age 75 which is designed to capture any growth in your crystallised fund value, plus any as-yet uncrystallised funds you have.

For example, at age 70 someone might have crystallised £750,000 in drawdown and £250,000 by taking their 25% tax-free cash – £1 million in total. This would use up 93.18% of their lifetime allowance (assuming they are entitled to the standard lifetime allowance of £1,073,100).

If over the next five years their fund increases in value to £1.3 million then the age 75 test will capture that growth – meaning a lifetime allowance charge would be payable.

The simple answer to the question ‘could you take money out of a pension to avoid the age 75 test’ is ‘yes’. However, whether that will benefit you or not will depend on your circumstances. You certainly won’t be able to dodge the lifetime allowance test altogether.

If your investments have gone up by 20% in single year that suggests you’ve taken a fair amount of risk – and therefore your investments could also fall in value significantly in any given year. If this happens, a large withdrawal designed to reduce your tax burden may in fact increase your tax burden.

This is probably easiest to illustrate with an example. Take someone aged 74 with a crystallised £1.2 million fund who withdraws £200,000 to avoid paying a lifetime allowance charge on their drawdown fund at age 75.

For simplicity, let’s assume this is their only income and so they pay almost £70,000 in income tax – including paying higher and additional-rate tax on portions of the withdrawal.

Over the year their investments drop in value by 20%. Based on the original value of £1.2 million, this would imply at age 75 their fund would have been worth £960,000 had they done nothing – well below the lifetime allowance.

They could then have managed their income after the age of 75 to minimise their tax liability – for example by ensuring they never pay more than basic-rate income tax.

If passing money onto loved ones is a consideration, you should also bear in mind that pensions are usually free from inheritance tax and can be passed on tax-free to loved ones if you die before age 75. After age 75, income tax is payable at the beneficiary’s appropriate rate – but withdrawals can be managed to minimise the tax due.

Money held in an ISA, on the other hand, is always free of income tax but will form part of your estate for IHT purposes (although it is possible to gift money while you’re alive to reduce any potential IHT bill).

In short, this is far from straightforward and whether your approach reduces the amount of tax you pay will depend on circumstances.

For this reason, I’d strongly recommend engaging the services of a regulated adviser, who can help you make the best decision based on a review of your entire financial position.

Comment

I think the starting point is that if you have breached the Lifetime Allowance this means you have good pension assets, that is great news.

You have a wide variety of options, and the right advice will be based on your own personal circumstances, objectives and risk profile etc. 

In this situation do take independent financial advice.

Steve Speed

21/07/2022

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Brooks Macdonald – Daily Investment Bulletin

Please find below, a Daily Investment Bulletin received from Brooks Macdonald, this morning – 15/07/2022

What has happened 

Risk appetite remained supressed yesterday as bank earnings and recessionary fears combined into another poor day for equity markets. JPMorgan yesterday missed expectations and Morgan Stanley saw investment banking revenue halve compared to the previous year. Q2 earnings will be a key determinant of whether the market concludes that the year-to-date falls adequately compensate for the expected deterioration of margins over the short to medium term.  

Federal Reserve 

With the US CPI report causing investors to reappraise the near term path for US interest rates, ‘Fed speak’ is being scrutinised to gauge the chances of a 100bp hike. The Fed will enter their communication blackout window on Saturday so yesterday’s comments are one of the last tests of Governor sentiment that the bond market has to work with. Governor Waller yesterday said that the CPI beat earlier in the week justified another 75bp rate hike however he was open to a larger hike if economic data was stronger than expected. President Bullard meanwhile also supported a 75bp hike, with the result that markets reduced their expectations for a 100bp hike. The 2-year US Treasury yield gave back some of its recent rise, trading at 3.11% at the time of writing. US technology stocks were a particular beneficiary of this reduction in rate expectations, managing to secure a small gain yesterday even as the broader US market sold off.  

Italy 

European political risk returned to the fore yesterday as Prime Minister Mario Draghi attempted to resign after the Five Star Movement refused to back his government in a confidence vote. Draghi said that ‘The loyalty agreement that was the foundation of my government has gone missing.’ With President Mattarella declining the resignation, the Italian political backdrop is uncertain with a fresh round of elections possible. Italy has been facing a large number of economic and political challenges since COVID, as reflected in the spread between German bond yields and Italian yields. Yesterday saw that spread widen to its largest level in over a month.

What does Brooks Macdonald think? 

Adding to the concerns of a global slowdown, overnight China released their Q2 GDP data which showed that the economy contracted on a quarter-on-quarter basis. China continues to struggle in applying the zero COVID policy to the latest Omicron led surge and this slowdown may well prompt Beijing to provide further economic support to ensure that the economy does not stall over the summer.

Please continue to check our Blog content for advice and planning issues and the latest investment, markets and economic updates from leading investment houses.

David Purcell

15th July 2022