Market Update 2nd October 2023

Taking stock

Monday 2^nd October 2023. The start of a new week, a new month and a new quarter. It is a typically warm and dank autumnal morning here in Cornwall: one of those heavy mizzles that registers no rainfall, but which soaks everything. It is reassuringly familiar territory.

It is probably a little corny to lead into markets also feeling a bit mizzly. They do, but this is, I think, unfair. Let us don a cagoul and reflect on the progress that has been made in the past three months. And also on some of the potential steps backwards. The natural place to start is interest rates. I know this is a boring topic, but we are all going to talk a lot less about these over the next few months. The Federal Reserve has not raised rates at its last two meetings, The Bank of England has also hit the pause button and although the European Central Bank raised again in September (it is always last to the party), there are few who do not think that this was their last hike. We are at peak interest rates.

Now it would be bonkers to think that the Central Banks would say anything else other than rates will stay at this level for a long time, or they may even go higher. What else would they say? “Sorry, we got it wrong and we are about to cut”? For the moment, it does not matter what happens next: the important bit is that rates are as high as they are going to go.

Inflation has fallen steadily throughout the quarter. Last week there were two reports about this from the United States. First, the measure that is given the epithet of ‘the Fed’s favourite measure’ (mine is a double…), the core PCE rate, was reported at 3.9%. Ok, that is not the 2% target, but if we measure this on the same basis as European inflation, then it is pretty much exactly there. Secondly, and well camouflaged in the bushes it is too, there is a little thing we usually refer to as the GDP deflator. This is the adjustment that is applied to nominal gross domestic product to produce the ‘real’ growth data that is reported. Now this US deflator has just been reduced to 1.7% (measured on a quarter versus quarter basis). This is not a million miles away from its average for the past 20 years.

For what it is worth, which is quite a lot, we also had an inflation update from the Eurozone last week. Europe thinks that inflation is so important it needs to update the calculations twice a month. This may be rather silly, nevertheless the latest from the statisticians in Brussels is that headline inflation is running at 4.3%. It peaked in October last year at 10.6%.

There is, as we know, many a slip twixt cup and the lip. There will be minor shouting here and there, but broadly the inflation and interest rate story is over and done with. We can make some guesses about what the next infatuation will be, but these are mere speculation. Company profits will need to fit in somewhere, and so will the state of government and central bank balance sheets. As we touched on last week, everyone is currently struggling to explain why bond yields are still rising. Not just rising, but with some increase in momentum as well. This is just at the time – with inflation tumbling, interest rates at a peak and economic data starting to deteriorate – that logic says yields should be dropping. But logic has always been over-rated when trying to fathom financial markets.

In the very short-term, we have Friday’s monthly update to the US non-farm payrolls to look forward to. The pace of hiring in the US has been slowing quite sharply, although much of this has been under the radar, as it were, with ongoing downward revisions to the initial estimates. We have been thinking for much of this year that there will be, at some stage, a really weak payroll report, seemingly from out of the blue. We are still waiting.

Jim Wood-Smith – Market Commentator and Head of Climate Transition

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