Commentary for October 2024

Market Overview

October was dominated by speculation regarding two key events, the Budget in the UK and the US elections. Global equity markets closed the month 2.3% higher, while bonds finished 1.1% lower. Overall strength was largely a result of a stronger dollar, which boosted the return of US equities to 3.5% for the sterling-based investor. Elsewhere, Europe and the UK fell by 1.8% and 1.4%, respectively, while Asia and emerging markets closed marginally lower.

Gold continued to move higher, closing up 4.2%. Central banks, particularly in emerging markets, are buying at an unprecedented rate as they accelerate their efforts towards de-dollarisation. The price of oil also rose, as tensions in the Middle East and Ukraine continued to escalate.

Attention was heavily focussed on the US election, the result of which was announced after the month end. Donald Trump was elected on a platform of tax cuts and deregulation; a business-friendly pro-growth agenda that was greeted positively by equity markets. The bond market was less enthusiastic. Yields saw a significant rise, reversing much of the move lower in Q3. The potential inflationary impact of looser fiscal policy led to a material change in the outlook for interest rates, as markets moved to price in US rates at 3.8% by the end of 2025, a full percentage point higher than previous expectations of 2.8%.

US economic data continued to surprise on the upside. Third quarter GDP growth came in at 2.8%, confirming a steady rate of growth. Overall inflation slowed to 2.1%, the lowest since early 2021 and just above the central bank’s goal. However, the Federal Reserve’s preferred measure of core inflation posted a large monthly gain and is now running in excess of 3%, further bolstering the case for a slower pace of interest rate cuts following September’s big reduction.

October also saw the release of the much-anticipated Labour Budget in the UK. A series of leaks meant that the bolder measures were already much discussed prior to the event. Therefore, from a macro perspective, there were no major surprises. Rachel Reeves announced changes that raised taxes by £40bn, alongside increased borrowing and spending. The bulk of the additional tax burden is to be shouldered by businesses through an increase in employers’ National Insurance contributions. The net result is likely to be inflationary, and gilts reacted accordingly. Yields rose sharply to 4.5% as the market priced in a shallower path for expected rate cuts going forward.

Elsewhere, the ECB announced its third rate cut of the current cycle in the face of a fall in Euro area CPI to 1.7% in September and continuing weakness across the manufacturing sector. In Japan, the Prime Minister’s decision to call a snap election backfired, as voters stripped the Liberal Democratic Party of its parliamentary majority for the first time in 15 years, leading to uncertainty in a country renowned for its political stability. The Chinese leadership continued to announce stimulus measures to turn around its flagging economy, including cuts in its prime interest rates.

Looking Forward

Election results generally matter less for markets than many believe, and we prefer to look through the noise to focus on long-term fundamentals. Global growth is improving, and central banks are cutting rates, suggesting that the environment should be supportive for risk assets overall.

A Trump presidency is likely to favour stronger economic growth and rising corporate profits. This is a positive environment for equities but could ultimately fan inflation by pouring fuel on an already strong economy, which suggests that caution is warranted over the medium term. US equities have had a phenomenal run, which has left valuations looking stretched. Major houses have warned of the potential for lower nominal returns going forward, with Goldman Sach’s model predicting that average returns could shrink to 3% annualised over the next decade. This suggests that over the medium term, US equities could lag other areas of the globe where prospects are improving, and relative values compared to the US have rarely been so compelling.

UK equities are still digesting the implications of the first Labour budget in over 14 years. While investors are disappointed that Labour have chosen to stick with a textbook socialist policy style of tax, borrow and spend, the initial verdict is that the overall impact is not as bad as feared. According to the OBR, “Budget policies temporarily boost output in the near term but leave GDP largely unchanged in five years”. At the same time, the OBR expects Budget policy measures to “increase inflation by 0.4% at their peak effect in 2026”, with interest rates falling to 3.5% by the end of 2026.

Our Strategy

Our standard portfolios are overweight equities, with a preference for markets in the UK, Japan, Asia and emerging equity markets.

UK equities remain the cheapest among developed markets. Economic data has surprised to the upside, rates are falling, and inflation is back under the 2% target. Moreover, a stream of bids for cheap companies has continued to highlight the value in stocks, with transactions occurring at an average premium of 40% over the share price before the bid. Smaller companies remain particularly cheap.

The US monetary policy outlook is likely to be most supportive for emerging markets, where equities are benefiting from stronger domestic demand and growth. The region has delivered positive performance after the end of a US rate hike cycle in four of the past five cycles. Action by the US Fed also provides greater flexibility for this region to initiate its own policy easing cycle without the fear of negative repercussions for its currencies.

Chinese stocks are set to receive a significant policy boost. The authorities are throwing the kitchen sink at the economy, which is exactly what markets needed. Many commentators are suggesting that this may be China’s whatever it takes moment – a reference to Mario Draghi’s famous declaration in 2012 during the euro crisis. Whether or not these measures will translate into consumption and overall growth and fix the deeper structural issues within the economy remains to be seen, but it’s hard to be bearish when both of the world’s biggest economies are loosening monetary and fiscal policy simultaneously. A stronger China would further increase the attraction of emerging markets and commodities in general and help unlock some of the value that’s been accumulating over the past decade or so.

While equities remain our preferred asset class, the prospect of lower rates means that bonds should outperform cash. Bonds also provide diversification in the case of slower growth but will not protect portfolios from the possibility that inflation remains higher for longer (except for index-linked bonds), which remains our central view. We are also mindful that the high level of fiscal deficits and outstanding public sector debt across major Western economies may well maintain upward pressure on yields for the foreseeable future.

Alternative assets such as gold and commodity stocks offer a valuable source of diversification and allow us to hedge against inflation and other potential risks and capitalise on wider opportunities outside of traditional bonds and equities. Stimulus by China could exert further upward pressure on commodity prices. The combination of higher geopolitical risk, lower interest rates and strong central bank demand has created a highly favourable environment for gold. Our exposure to both physical bullion and gold mining shares across standard portfolios has been a major contributor to outperformance versus benchmarks.

Overall, we continue to manage investments in a manner that allows us to capture the upside in financial markets while also effectively controlling risk to dampen volatility and smooth the path of returns.