It was a strong week for investment markets as investors reacted positively to speculation that the US central bank could embark on a sharp series of interest rate cuts next year.
The Federal Reserve (Fed) held its interest rate steady for the third straight meeting, with chairman, Jay Powell, delivering an early Christmas present to markets when he implied rates have likely peaked, having previously indicated further increases could be required. Bond yields moved lower (yields fall as prices rise) on the news that the Fed officials are now indicating 0.75% of cuts in 2024, well ahead of previous market expectations. The fall in interest rate expectations fuelled a broad rally in global equities, with sectors most sensitive to interest rates seeing the strongest gains.
Closer to home, the Bank of England followed a similar tack by also choosing to hold interest rates at the 15-year high of 5.25%. Three Monetary Policy Committee members voted to increase interest rates by 0.25%, while six felt rates were already high enough at the current time. Any reduction in interest rates in the UK looks unlikely in the short run, with the central bank saying they expect that “monetary policy will need to be sufficiently restrictive for sufficiently long to return inflation to the 2% target sustainably in the medium term”. The pound saw gains against most major currencies on the news. Sterling now trades around 1.27 $/£, up from around 1.22 $/£ at the start of November.
October proved a tough month for equities and bonds as a ‘higher for longer’ narrative for interest rates became engrained in investor sentiment. Since that point, the language used by central banks has softened, and weaker economic data has supported the view that this should not be assumed as the base case scenario. It increasingly looks likely that central banks have tightened monetary policy sufficiently to bring back inflation towards their target, and we could see a series of cuts as 2024 progresses.
John Naylor, Chartered FCSI – Head of Investment Committee