Financial Bulletin – March 2024

Overview

The UK economy performed worse than expected in the final quarter of last year and officially fell into a recession.

The Bank of England’s voting committee was split three ways in determining the best course of action from here.   

The Eurozone economy managed to avoid a technical recession after recording 0% growth in the final quarter of the year but, as with the UK economy, is effectively stagnating.

Elsewhere the US economy continued to expand, but inflationary pressures are beginnning to rise once more and expectations for the first interest rate cut were pushed back further.

In more of a surprise the Japanese economy also fell into a technical recession. This makes life difficult for the Bank of Japan who were gearing up to raise interest rates.

Stock markets, particularly the US market, were powered forward by the incredible rise of Nvidia and the optimism surrounding articifial intelligence.   

Over the last 6 months the FTSE 100 returned 3.55%, the S&P 500 returned 13.46%, whilst the Euro Stoxx 50 returned 14.48%.

The Japanese Nikkei 225 returned 19.74% over the same period.

The broad emerging markets index returned 4.36% in US$ terms.

US 10 year government bond yields were fairly flat over 6 months whereas UK 10 year Gilt yields edged down.   

US Economic News

Whilst headline inflation has so far not started to rise there were further signs of inflationary pressure beginning to creep up during February.

Whilst inflation fell to 3.1% in January most economists were expecting more of a fall. Moreover the core inflation rate remained unchanged from the previous month.   

Taken together the news on inflation suggested that the gradual decline has stalled somewhat and markets pushed out their estimate for the first rate cut.  

By contrast the latest surveys painted a slightly more encouraging picture on inflation going forward as companies reported lower cost pressures.

The underlying economy continued to expand during February, though at a slightly softer rate.

In a change from previous months both the services and manufacturing sectors played a part in expansion.

UK Economic News

The UK economy is estimated to have contracted by -0.3% in the final quarter of last year and, taken together with the -0.1% fall in the second quarter, means it is officially in recession.

That said the latest surveys during February suggested that things have picked up since the start of the year.

In fact the economy is estimated to be improving at the fastest rate for nine months and business expectations for the year ahead improved.

Unfortunately the acceleration in activity has also come with a renewed increase in inflationary pressure.  

Partly down to the disruption in the Red Sea, companies reported the largest increase in selling prices since July last year.

The twin problems of a flatlining economy but still stubbornly high cost pressures is clearly making life difficult for the Bank of England in deciding how to react.

At its February meeting the Bank left interest rates on hold but the vote was a three way split. Whilst six members voted for no change two voted for an increase and one voted for a cut.

Eurozone Economic News

The Eurozone economy managed to avoid the official definition of a recession after registering 0% growth in the final quarter of the year.

Nevertheless the region is effectively stagnating and the latest surveys suggest that the economy continued to contract during February, albeit at a slower rate.

The largest drag on growth remains Germany, where output is estimated to have contracted at an even faster rate.

Inflation across the Eurozone edged down to 2.6% in February, which was slightly above expectations but still maintains the gradual trend of disinflation.

In an echo of the situation facing the Bank of England several members of the Governing Council of the European Central Bank appear to have quite divergent views.

Whilst some have argued that interest rates need to be lowered fairly soon others maintained that there is no need to act for some time.

Wider Economic News

The Chinese manufacturing sector is estimated to have improved marginally during February.

However, there remains large overcapacity and debt in the property sector and investors awaited potential new policy measures from March’s National People’s Congress.

Elsewhere, in Japan, the economy unexpectedly fell into recession at the back end of last year.

This makes life difficult for the Bank of Japan which had been making noises about ending its 8-year negative interest rate policy.  

Financial Markets and Corporate News

Despite the prospect of US interest rate cuts being pushed further into the distance, most stock markets had another excellent month.

The main catalyst is the phenomenal rise of Nvidia, which is the dominant manufacturer of chips for AI applications.

To put it into perspective the value of Nvidia rose by $270 billion in a single day during February – that is more than the total market cap of Shell plc, the largest company in the FTSE 100.  

Also setting records during February was the Japanese stock market. The Nikkei 225 finally surpassed its previous peak set all the way back in 1989.

Over the last 6 months the FTSE 100 returned 3.55%, the S&P 500 returned 13.46%, whilst the Euro Stoxx 50 returned 14.48%.

The Japanese Nikkei 225 returned 19.74% over the same period.

The broad emerging markets index returned 4.36% in US$ terms.

The Investment Association (IA) UK Gilts sector returned 3.17% over 6 months, whilst the IA Sterling Corporate Bond sector returned 6.02% and the IA Sterling High Yield sector returned 6.58%.

Summary of Key News:

  • The UK fell into a technical recession at the end of last year.
  • The downward trend in US inflation seems to have slowed.
  • The BoE and ECB seem split on the best way forward.
  • The UK and Eurozone economies showed tentative signs of improvement.
  • The Japanese economy fell into a technical recession.
  • The Chinese economy marginally improved but further policy action is likely needed.

Financial Markets:

  • Most stock markets made solid gains during February.
  • Investor optimism surrounding AI grew.
  • Over 6 months the FTSE 100 returned 3.55%, the S&P 500 returned 13.46%, and the Euro Stoxx 50 returned 14.48% (total return).
  • The Japanese Nikkei 225 returned 19.74% (total return).
  • The broad emerging markets index returned approximately 4.36% (in US$ terms).
  • The   IA UK Gilts    sector    returned 3.17% over 6 months, whilst the IA Sterling Corporate Bond sector returned 6.02%, and the IA Sterling High Yield sector returned 6.58%.

Outlook

For now the Federal Reserve seems to have won the battle with the market over when interest rates should be cut.

At the start of the year investors were expecting something like 6 rate cuts in 2024, beginning in March.

Slowly but surely, however, the market has come round to the Fed’s view that only 3 cuts will be required and likely in the second half of the year.

Normally this would result in equity market weakness and yet several stock markets have simply powered forward.

The main factor behind this shift in sentiment is growing optimism that artificial intelligence can not only enhance company earnings but also accelerate growth at the economy level.   

If AI can live up to expectations then equity markets can justify their higher rating even with higher interest rates.

Of course, as expectations continue to rise and some of the largest companies in the world become ever more highly rated, this does make stock markets more fragile should sentiment turn.

Whilst most equity markets have made significant gains over the last 6 months the largest regions of the world seem to be split into three categories.

The US economy looks  robust, the UK, Eurozone and Japan are essentially flatlining, and China still growing but dealing with fundamental problems.

The fact that policymakers at the Bank of England and European Central Bank are split on the way forward highlights that, although inflation is much lower than a year ago, it is not completely defeated yet.