Over the last couple of weeks, investment markets have been largely supported. Corporate earnings have performed better than expected, with many firms meeting and even beating expectations. Additionally, market participants are starting to believe that we may have passed peak inflation. Leading up to the Federal Reserve (Fed) meeting on Wednesday, investors were asking the Fed a question I get from the back seat within the first few minutes of every family car journey: “Are we nearly there yet?”
To disappointed ears, Fed Chair Jerome Powell gave his answer: “We still have some ways to go, and incoming data since our last meeting suggest that the ultimate level of interest rates will be higher than previously expected.” The committee raised interest rates by 0.75% for the fourth consecutive time but did give some hints that the pace of further rises could slow and they would be driven by data. The increase took the federal funds rate to a range of 3.75% to 4%.
Investors were left digesting a mixed message; while the steepness of further increases might be lower, the peak (or terminal rate as it is referred to) could be higher than expected and take longer to get there. That signalling however does reduce the chances of the Fed causing a hard landing on the US economy by blindly raising rates to get inflation down more quickly.
Closer to home, the Bank of England (BoE) matched the Fed on Thursday and raised interest rates by 0.75% to 3%. Having been accused of being too slow to raise rates in previous meetings, this move is the biggest single rise in the cost of borrowing in the UK since 1989. The pound fell roughly 2% against the dollar on the news and the yield on 10-year government bonds was broadly flat at 3.46%.
In the short term, the continued rapid rise in interest rates will be viewed as a negative. It is important, however, that the Fed and BoE stay the course and bring inflation down towards target levels. Once the market feels confident in this being achieved, the stage is set for a positive economic environment and one where we expect equity markets to perform well.
John Naylor, Chartered FCSI – Head of Investment Committee