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    Weekly multi-asset update: December

    Weekly multi-asset update: December

    15 December 2023 Multi-asset
    Week to 15 December 2023

    Summary

    • US Federal Reserve indicates rate cuts in 2024; bond and equity markets rally on soft landing narrative
    • Eurozone and gilt yields fall following the Fed announcement, while other central banks try to strike a hawkish tone
    • Risk markets receive a boost from expectations of rate cuts ahead
    • Next week: key data releases, central bank decisions, and earnings reports to shape market sentiment

    Weekly Review

    US Federal Reserve indicates rate cuts in 2024; bond and equity markets rally on soft landing narrative

    The US Federal Reserve (Fed) left policy rates unchanged as expected, but significantly, the Fed policymakers’ ‘dot plot’ indicated three rate cuts of 25bp each in 2024 – with more cuts to come in 2025 and 2026 – aligning with the growing soft-landing narrative and close to market expectations. US bond yields still fell, with the 10-year Treasury yield falling below 4.0% to its lowest level in almost five months. The two-year Treasury yield fell by over 30bp over the week with the move immediately after the Fed meeting resulting in the largest one-day decline since the mini-banking crisis in March. The majority of Fed members now view inflationary risks as balanced and the accompanying statement was also less hawkish, with the addition of the word "any" to the phrase "the extent of any additional policy firming that may be appropriate."

    A softer-than-expected PPI figure (2.0% vs. 2.2% expected) for November provided momentum for US Treasuries before the Fed's announcement and further supported the “soft landing” narrative because some PPI components contribute to the Fed's favoured PCE measure of inflation. Other notable data releases from the US include the NFIB’s small business optimism index, which fell to 90.6 (vs. 90.7 expected) in November, and the net percentage expecting credit conditions to ease, which was down to -11%. November's retail sales figures were also positive, rising by +0.3% (as opposed to the predicted -0.1%). Initial jobless claims per week decreased to 202k during the week that ended on December 9 (compared to the predicted 220k). The soft-landing narrative supports the short-term outlook for risk assets generally into the year-end, with the Fund’s recent increase in equity exposure benefitting from the strong equity rally of recent weeks.

    Eurozone and gilt yields fall on the Fed announcement, while central banks try to strike a hawkish tone

    The Bank of England (BoE) and European Central Bank (ECB) were less dovish in rhetoric, although both also left policy rates unchanged. Major eurozone bond-market yields fell over the week. The ECB intimated that the monetary policy would need to remain tight, with ECB President Lagarde stating that there was still “work to be done”. Alongside the decision, the ECB declared that by year's end 2024, reinvestments under PEPP would end and the portfolio would be reduced by an average of €7.5 billion each month during the second half of 2024. Despite the more hawkish tones from the ECB, 10-year Bund yield traded down towards 2.0%, levels last seen in January.

    The Bank of England (BoE) left rates unchanged but struck a decidedly more hawkish tone than the Fed. BoE governor Bailey said that rates would need to stay elevated for an “extended period of time”. Despite this, rate futures currently discount a fall of more than 100bp in interest rates in 2024. The 10-year gilt yield also dropped its lowest level since May 2023, down by 30bp to 3.70%, while the two-year yield also declined markedly, driven more by the Fed announcement than that from the BoE. The latest UK labour market data also showed signs of easing, with growth in average weekly earnings (excluding bonuses) down to +7.3% over the three months to October (vs. +7.4% expected), marking its lowest figure for six months. In addition to this, the number of openings decreased further, reaching a record low of 949k in the three months leading up to November.

    Developed market government bonds have rallied significantly over the past few weeks and offer less value at present. Given their higher-than-normal correlations with other asset classes, this is providing little impetus for us to increase the Fund’s duration exposure materially from current low levels.

    Risk markets receive a boost from expectations of rate cuts ahead

    Credit spreads in both investment grade and high yield markets narrowed, while equities broadly strengthened. The Dow Jones hit a new all-time high, while both the S&P 500 and Nasdaq indices traded near two-year highs. Prior to FOMC, the S&P 500 had been trading almost flat; it gained half a percent after the decision and another percent during Powell’s press conference. Asian, European and UK shares also rallied strongly, with the Euro Stoxx 50 hitting a 23-year high. US headline consumer inflation was also well received by investors as it eased mildly to 3.1% in November. Oil was marginally higher, with West Texas Intermediate at around $72 per barrel, on optimism about rate cuts in 2024 and their impact on oil demand. Industrial metals such as copper and zinc also rallied on improving sentiment regarding the global economy.

    Next week: key data releases, central bank decisions, and earnings reports to shape market sentiment

    Next week's key releases include US personal income and spending data, along with PCE inflation, to assess growth and spending dynamics following this week's CPI inflation and the Fed meeting. US economists expect month-on-month growth in income, consumption, and core PCE to stay at +0.2%. Additionally, durable goods orders data is anticipated, with expectations for the core gauge to increase +0.1% month-on-month. The Conference Board's consumer confidence measure and various housing market gauges will be in focus. The Bank of Japan's decision on Tuesday will be closely watched, given recent rhetoric around ending the negative interest rate policy in January. In Europe, the ECB's biennial conference on fiscal policy and EMU governance is scheduled, and UK inflation data will be released. Asia will focus on Japan's national CPI report on Thursday. Notable earnings reports include Nike, Micron, and FedEx.

    Week to 08 December 2023

    Summary

    • US Treasuries continue to rally on steady manufacturing data reinforcing expectations of a Fed rate cut
    • Dovish sentiment drives eurozone and UK bond markets
    • Japanese government bond yields tick up on Bank of Japan comments
    • Equity markets mixed while declining commodities contribute to a sanguine inflation outlook
    • Next week: central banks' final decisions of the year and key global growth data releases

    Weekly Review

    US Treasuries continue to rally on steady manufacturing data reinforcing expectations of a Fed rate cut

    The 10-year Treasury yield fell to 4.1%, its lowest level since late August, before recovering a little, as investors continued to discount a potential rate cut by the Federal Reserve before the middle of next year and approximately 130bp of cuts by the end of 2024. With the two-year yield rising gently, the spread between the 10-year and two-year bond yields widened by approximately 10bp to -0.45bp. Long rates fell further, with the 30-year yield down between 10-15bp. Fed Chairman Powell’s comments at the end of last week – where he suggested that Fed policy was “well into restrictive territory” – and a lower-than-forecast job openings figure of 8.73m for October drove yields lower. The ISM services index in the US rose slightly more than expected to 52.7 in November, which also indicates steady growth. Further along the risk curve, US HY spreads reached their tightest levels in over 18 months, contributing to considerably eased financial conditions. The bond-bullish narrative took a hit as US non-farm payrolls rose to 199,000, beating estimates of 185,000; and unemployment rates, expected to hold steady at 3.9%, dropped to a lower-than-expected 3.7%. Looking forward, wage growth of 4% suggests the Fed faces a tough task in restoring stable inflation into 2024.

    Dovish sentiment drives eurozone and UK bond markets

    Eurozone bonds and gilts collectively outperformed most other government bond markets, while data indicated contracting factory orders and falling levels of industrial production. The German 10-year bund yield dropped about 20bp to 2.15% – its lowest level for seven months – and the 10-year Italian BTP was down below 4% – its lowest for 10 months – before they both rose somewhat. Rate futures currently indicate increasing investor conviction in a rate cut by the European Central Bank (ECB) as early as March. The market was buoyed by comments from traditional ECB hawk Isabel Schnabel; she stated her belief that further rate hikes were no longer appropriate given how far inflation had fallen. Euro area Q3 GDP confirmed a 0.1% quarterly decline, further highlighting signs of labour market moderation for the ECB. Gilt yields also declined over the week, with the 10-year yield falling below 4% for the first time in over six months, as investors increasingly expect the next move in rates to be downwards. As with the US, long rates fell further, with the 30-year gilt yield down between 15-20bp towards 4.5%. Both the euro area composite PMI and the UK composite PMI were revised up to 47.1 and 50.7 respectively in the final readings for November. 

    Japanese government bond yields tick up on Bank of Japan comments

    The 10-year Japanese government bond yield rose over 10bp on Thursday to 0.75% on comments from Bank of Japan (BoJ) Governor Ueda that encouraged the growing belief that the central bank was contemplating an end to its ultra-loose monetary policy. Ueda stated that it would “become even more challenging” to maintain the BoJ’s current policy in 2024. He mentioned moving short rates higher from the current target of zero percent, although he reiterated his view that more evidence of wage-driven inflation would be needed to make that change. Despite the Japanese economy contracting by more than previously thought in Q3, the speculation of an end to the negative interest rate policy led to a surge in the yen against the US dollar up approximately 2% at the time of writing.

    Equity markets mixed while declining commodities contribute to a sanguine inflation outlook

    Global equity markets remained range-bound this week, with the performance of US mega-cap tech stocks — the so-called Magnificent Seven — an outlier in US markets. UK and European equities rose in aggregate, with divergent performance observed across regions and sectors. Germany’s DAX touched a new all-time high, supported by investors’ widespread belief that the world’s major central banks have completed their tightening cycles. Asian markets were mixed as the main Chinese composite markets closed slightly up on the week whilst Japan continued to lose ground with the Nikkei in decline. Oil fell (West Texas Intermediate dipped below $70 per barrel) to a near six-month low on persistent demand/supply concerns. Gold eased back from its all-time high of approximately $2150/oz set at the beginning of the week. Broader commodity struggles included copper down three days running and Bloomberg's Commodity Spot Index closing at a 5-month low.

    Next week: central banks' final decisions of the year and key global growth data releases

    Next week brings the Fed, ECB, Bank of England (BoE) and Swiss National Bank (SNB) back into the spotlight as they deliver their final monetary policy decisions of the year. With a policy pause widely anticipated by the Fed, the focus will be around whether the Fed signals a soft tightening bias and any indications on the timing of its first rate cut. Following the Fed's decision, all eyes will be on the latest CPI report, retail sales and industrial productions in the US. In Europe, the ECB, BoE and SNB are also expected keep rates constant, with the BoE making minor adjustments to its forward guidance and the ECB and SNB taking a more dovish stance.

    Alongside the policy decisions, key data releases in the UK are scheduled for next week, including the monthly GDP and labour market data , which may help assess the degree of labour market cooling. Markets will also be focused on global flash PMIs towards the end of the week to establish whether economic growth has improved. Moving on to Asia, investors will keep an eye for the BoJ’s quarterly Tankan survey of business for December and inflation data out of China, following China CPI dropping into negative territory in October. Investors will also gauge the state of economic recovery on Friday when the industrial production and retail sales out of China are released.

    Week to 01 December 2023

    Summary

    • US Treasury yields initially fall on optimism about rate cuts, but pare back some gains toward the end of the week
    • Data signals inflation moderation continues; yields rally in UK and Europe despite central bank rhetoric
    • Japanese government bond (JGB) yields fall despite a rise in a key inflation measure and mixed data out of China
    • Equity markets trade sideways, capping a strong month as investors believe that policy rates have peaked
    • Next Week: Busy week of economic data; US labour data key ahead of next Fed meeting, RBA rate hike likely

    Weekly Review

    US Treasury yields initially fall on optimism about rate cuts, but gains pare back towards the end of the week

    The latest US data pointed in a dovish direction, with headline PCE (a core inflation metric for the Fed) flat and lower than expectations for a 0.1% rise. This brought the year-over-year move to 3.0% - the lowest level since March 2021 and historically consistent with a more dovish monetary policy. The Conference Board's consumer confidence index also came in above expectations, increasing from a revised 99.1 in October to 102.0 in November (compared to an expected 101.0), which ended a 3-month decline.

    Central bank rhetoric was mixed. Federal Reserve (Fed) member Waller said he was “increasingly confident” that monetary policy was “well-positioned” to get inflation back to 2%. However, New York Fed President Williams stated he expects “it will be appropriate to maintain a restrictive stance for quite some time to fully restore balance, and to bring inflation back to our 2% longer-run goal on a sustained basis”. The market sided with Waller, as the 10-year Treasury yield traded at its lowest level since mid-September, falling some 20bp over the week to below 4.3% at the time of writing. The two-year yield declined more than 30bp towards 4.6%, its lowest since mid-July, leading to a slight steepening in the yield curve. Fed fund futures currently predict a near 90% chance of a rate cut by mid-2024.

    Data signals inflation moderation continues; yields rally in UK and Europe despite central bank rhetoric

    UK bond yields followed suit as dovish sentiment prevailed, with the 10-year gilt yield falling to 4.18%. Shop price inflation continued to fall, with data from the British Retail Consortium hitting a 17-month low of 4.3% in November. Bank of England governor Andrew Bailey stated that it would be “hard work” getting inflation back to the central bank’s target which somewhat tempered the bullish mood.

    European yields also fell, with the yield on German 10-year bunds 20bp lower over the week, reaching 2.36%, its lowest level for four months. Preliminary annual inflation in the eurozone fell to 2.4% in November, down from 2.9% last month. It was the lowest figure since July 2021 and is approaching the ECB’s target. Annual core inflation also declined, hitting a lower-than-expected 3.6% and down from October’s 4.2%. Nevertheless, the European Central Bank continued to dismiss the idea that rates will be cut anytime soon. ECB President Lagarde reiterated that the ECB expects to maintain “interest rates at current levels for a sufficiently long duration”, to make “substantial contribution to restoring price stability” and that it is “not the time to start declaring victory”. The labour market continued to show signs of softening as German unemployment increased to 5.9%, which increased rate expectations in the Eurozone.

    Japanese government bond (JGB) yields fell despite a rise in a key inflation measure, mixed data out of China

    The 10-year JGB yield fell by almost 10bp over the week to 0.70%, its lowest level since mid-September, despite a jump in the Bank of Japan (BoJ)’s favoured measure of inflation – weighted median inflation – to an annual rate of 2.2%. The upcoming wage negotiations in April will be a key data point to gauge an important underlying inflationary impulse. Elsewhere in the region, China's manufacturing sector surprisingly grew in November, with the Caixin PMI measuring 50.7 (compared to the projected 49.6). This was up from 49.5 in October and was the quickest expansion in three months. The Caixin PMI deviates from the most recent official PMI, which fell to 49.4, suggesting that further intervention would probably be needed to boost growth.

    Equity markets trade sideways, capping a strong month as investors believe that policy rates have peaked

    Despite the hawkish rhetoric from central banks, the growing conviction that interest rates have peaked continued to drive markets; risk assets (especially equities) traded sideways but brought a notably strong month for global equities to an end. The Fund’s above average exposure to cyclical assets (which includes equities) benefitted from the improving sentiment. Inflationary data was broadly supportive of lower bond yields, although rhetoric emanating from central banks pushed back against market pricing of near-term rate hikes. Growth remains, in the US at least, relatively robust, although European data is more mixed, especially given the weaker labour market prints from Germany. Market correlations remain high, with both bonds and equities rising over the week. Within commodities, gold rose to a seven-month high as the US dollar fell and interest-rate expectations declined. The oil price moved sideways as OPEC+ members appeared to agree to 1m b/d in additional, albeit voluntary, production cuts following their meeting on Thursday.

    Next Week: Busy week of economic data; US labour data key ahead of next Fed meeting, RBA rate hike likely

    Next week's economic focus is on the US, with the spotlight on the November jobs report ahead of the Federal Reserve's meeting on December 13. The University of Michigan's Friday release will also help to gauge consumer sentiment as well as factory orders on Monday and the ISM services index on Tuesday. Rate decisions from the Bank of Canada and Reserve Bank of Australia, with expectations of a 25bps hike from the latter. Europe sees significant releases in Germany, including trade balance, factory orders, industrial production and the ECB consumer expectations survey. Asia has a packed week for data with the Tokyo CPI, Economy Watchers survey, and trade balance. China's trade balance figures and the Caixin services PMI will be closely watched. On the geopolitical front the EU-China summit starts in Beijing on December 7th.

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