December 2023

Market Commentary

2023 Year in Review

(4 min read)

Big swings in the fear and greed barometer continue! In recent newsletters we have written about the possibility of a change in the future market backdrop given that interest rates have risen to levels not seen since before the financial crisis of 2008 and the prospect of staying at these levels for some time.

During the summer market sentiment deteriorated significantly as tighter monetary policy to deal with high and sticky inflation sparked fears of recession and stagflation, a marked slowdown in economic growth combined with uncomfortably high levels of inflation. This sombre market mood continued into late October when sentiment changed significantly. Markets have reacted positively to a global recession that has proved rather illusive, although it should be emphasised that we do expect slower growth in 2024 because the impact of higher interest rates can take some time to have the full impact, and the inflation outlook has improved somewhat. This has resulted in markets now discounting three 0.25% rate cuts in the UK, six in the US and the Eurozone. This has been reflected in the fall of bond yields (higher bond prices) - see the chart below of 10-year UK gilt yields - and has increased the appetite for risk assets in the form of the equity market.

Interest rates

Chairman Powell’s rhetoric after the recent Federal Reserve interest rate meeting confirmed that the Fed agrees with the market’s assessment. This is a considerable change in the communication delivered less than two weeks ago when the Fed’s mood was somewhat more cautious on bringing rate cuts into the conversation. The Bank of England and the ECB remain much more in the ‘higher for longer’ camp. The Fed’s recent stance took markets by surprise and might have something to do with the US political cycle as we get closer to next year’s presidential election.

Markets

Without wishing to dampen any seasonal good tidings, we wonder, in the same way that markets were overly gloomy in the summer through to the autumn, whether markets have got a bit ahead of themselves with the recent optimism if that is solely based on the projection of aggressive interest rate cuts next year. While inflation has fallen sharply to roughly 4% at the core level across the developed world, the hardest part of slaying the inflation dragon will be the reduction from current levels to the 2% target. While high commodity prices have fallen out of the year-on-year comparison, the labour market is tight and wage costs remain high. Consequently, we think central banks are unlikely to announce victory by cutting interest rates in the way markets are currently hoping for.

Portfolios

This year we have made considerable changes to portfolios by adopting a more diversified approach. We have started to invest in the bond market, reflecting the significant rise in yields over the last 18 months and have taken a more balanced approach between growth and value companies, which we have discussed in previous newsletters, and believe that this diversification will serve investors well during volatile markets going forward. However, we remain confident that the investment environment will present many opportunities. The noise, volatility and aggressive swings between optimism and gloom will be part of that environment but should not deter investors from taking advantage of positive long-term prospects.

Peter Geikie-Cobb | Head of Investment Research
Montgomery Associates
15th December 2023

Source: FT.com showing the UK 10 year Gilt yield as at 14/12/2023.
https://markets.ft.com/data/bonds/tearsheet/summary?s=UK10YG