Capital Markets Update: July 2018

For professional advisers only. Not to be relied upon by retail investors.

Capital Markets Update

  • Bank of England explains case for raising interest rate
  • View from the cliff edge for Brexit
  • Politicians’ holiday reading
  • Trump deals cards on world trade
  • US economy on the up

 

In a nutshell

The summer months are traditionally a quiet period for markets. Vacationing politicians put on hold debate about Brexit and the Italian coalition government’s proposed budget. Talks between the European Union (EU) and US on averting a global trade war appeared positive but resolved little. A well-signalled rise in the UK interest rate had limited impact on markets. In the US, the case for continuing with planned interest rate rises was supported by strong economic growth.

July’s news – Bank of England explains case for raising interest rate

At the beginning of August, the Bank of England announced a much anticipated interest rate rise of 0.25%. For markets, it wasn’t so much about the rate rise itself, which was pretty much a given, but the following announcement in which the Bank of England’s Monetary Policy Committee justified its rationale. There was a strong case to leave interest rates as they are, particularly given the uncertainty around Brexit. Sterling rose on the announcement of the interest rate rise but soon fell back as Bank of England Governor Mark Carney spoke of his concerns over the possibility of a hard – or ‘cliff edge’ – Brexit.

View from the cliff edge for Brexit

Talk of a cliff edge Brexit picked up as March 2019 approaches without a great deal of progress being made so far. In the UK, some of the key actors were replaced, amid a whirlwind of high-profile resignations and appointments, following publication of the Chequers’ Brexit white paper outlining the type of EU exit the UK is looking for. Prime Minister Theresa May just about got the paper through Parliament, but it was met with a cool reception from the EU.

Politicians’ holiday reading

September is going to be important for the EU as it progresses Brexit negotiations, talks trade with the US and, importantly, gets its first sight of the threatened budget proposal from the new coalition government in Italy. We will see how antagonistic the new Italian government is likely to be. It’s a distraction the EU could well do without as it has the potential to create problems by opening up another battle line in addition to Brexit and US trade, but this time from within the EU itself.

Trump deals cards on world trade

Markets have been preoccupied with concerns of an all-out global trade war initiated by US President Donald Trump as he pursues his protectionist America First policy. The first wave of US tariffs on China was imposed with the second set to be implemented early August. China looks set to retaliate in kind. Trump clearly likes to make a deal and July’s visit to Washington by Jean-Claude Juncker, President of the European Commission, seemingly opened the door for some form of negotiation on trade. According to Trump, Europe is going to buy a lot of soya beans. Both Europe and China were targeting agricultural goods such as soya, peanut butter and ginseng in retaliation to US trade tariffs. Agricultural exports are a key source of income for a swathe of hardcore Trump voters.

US economy on the up

The US economy powered ahead by 4% in the second quarter of 2018. The economy is strong, job growth is strong and there are now more jobs available than unemployed workers. Consumer confidence is high, inflation is approaching the US Federal Reserve’s (Fed) target of 2% and the effects of Trump’s tax breaks are yet to feed through. All in all, there is plenty to justify the Fed’s current approach and to support the path of rising interest rates it has laid out. The Fed is expected to deliver two additional rate rises of 0.25% each before the year is out.

Outlook

August is traditionally a quiet month for markets and there will probably be some relief that the politicians are on recess given how much geo-political ‘noise’ is going on to unsettle investors. But this is likely to be the calm before the storm. There remains a lot to contend with in September when the politicians return. Brexit negotiations will begin in earnest (one hopes) as the countdown to March 2019 continues. Let’s hope the talk of stockpiling food and other items represents the last of the UK government’s bluffs to appease the hard right within the Conservative Party before they sit down and actually get on with the job of talking to Europe.

Investors will be looking for the UK to avoid crashing out of the EU and for signs that a softer outcome can be achieved, even if it is only a case of kicking the issue down the road for a while. The EU will be hoping the new coalition government in Italy will be less confrontational and more willing to accept the fiscal discipline required to be an EU member. The US economy might well be beginning to overheat but, for now, it is the growth engine for the global economy. The strength of the US dollar will hurt emerging markets, which are already struggling under the prospects of a global trade war. Markets would certainly welcome an end to talk of trade wars but with tariffs already in place this has some way to play out. We remain cautious across our portfolios. There is a lot of uncertainty and August should provide some breathing space for market participants to reflect on their investment strategies

 

Oliver Wallin, Octopus Investments

e: owallin@octopusinvestments.com

t: +44 (0)20 7776 3153

 

Important information:

For professional advisers only. Not to be relied upon by retail investors. The value of an investment, and any income from it, can fall or rise. Investors may not get back the full amount they invest. Past performance is not a reliable indicator of future results. Personal opinions may change and should not be seen as advice or a recommendation. Issued by Octopus Investments Limited, which is authorised and regulated by the Financial Conduct Authority. Registered office: 33 Holborn, London, EC1N 2HT. Registered in England and Wales No. 03942880. Issued: August 2018. CAM07275.