UK & US Economic Update – 24 March 2015

UK & US Equity markets rebound sharply as investors bet on lower for longer

At the time of the last update equity markets had fallen sharply in the US and the UK as the rising possibility that rates could faster than anticipated converged with building concerns over valuations in the US.

Since this time, equity markets have rebounded sharply in the UK and the US, while also holding firm across the European continent.

Key to the nascent rebound has been the Federal Reserve’s downward revision to growth and inflation forecasts. Despite that the FOMC also dropped the term patient from its guidance relating to when it could raise rates, investors have taken the lower growth and inflation projections as a green light to begin once again on a lower for longer scenario with rates.

In this regard, it is worthy of note that the consensus upon when rates will rise in the US is now split, with some analysts still expecting a lift off in June and others kicking their forecasts out to September.

While there is no way to be certain which group of forecasters will be correct, it is possible to say that an initial move from the Fed is still very much on the cards for 2015, most likely by the beginning of the fourth quarter (September).

We also note that there is a building consensus for a rate rise from the Bank of England in August, which means that it could well be the BOE that takes first mover position if this consensus is correct.


UK & US economic data falters, all eyes on this week’s inflation numbers

In the past fortnight UK and US economic numbers appear to have faltered slightly, with retail sales, manufacturing and confidence figures slipping in the US, while average earnings and unemployment data disappointed in the UK.

Looking ahead, all eyes are now fixed firmly upon February inflation figures which are out for both economies later on this week.

At present we anticipate that the February rebound in oil prices will have carried through into the month’s headline inflation figures which means that despite official forecasts to the downside, we will probably see a minor uplift the most recent numbers.

While this would be positive for the respective currencies, it could have an adverse impact upon UK and US equity markets, so an uptick in volatility is quite possible in the current week.


Looking a bit further out

If the evolving consensus upon UK monetary policy is to be believed then this means that the potential exists for some investors to be blindsided by a sudden move from the BOE during the months ahead.

This appears a particularly pertinent point when considering that earlier projections, including our own, had suggested an initial hike from the BOE as likely to come in the fourth quarter.

For the record, we still believe that an increase in interest rates in the UK would hit consumers much quicker than the benefits of what have been largely meagre increases in real terms wages during the last six months.

For this reason, we continue to believe that any such move would be premature and that to ensure longevity of the current recovery, a much longer period of time will be required before the largest portion of the population will be able to sustain an interest rate hike without entering into financial distress.

In terms of equity markets, we see the risks being finely balanced in the UK and slanted moderately toward the downside in the US once into the summer months.

In the UK we believe that loosening policy in China and an easy ECB may offset some of the pressure created by a hiking BOE, while in the US investors are likely to concentrate more closely upon valuations and earnings growth, which may not be forthcoming.

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