The month of May saw equities on the whole continuing to recover from their February and March declines as economic data remained broadly supportive. Safe haven bond yields however fell, as Italian politics and renewed trade fears triggered a flight to safety – it is often the case that bond and equity markets appear to react differently to geopolitical news. The flight to safety may also have been what pushed the US dollar higher during the month.
"The US Federal Reserve have recently introduced a new word into their lexicon"
Employment data announced in May showed further strength in jobs markets or at worst stability. The unemployment rate in Europe came in at 8.5% for the third month running, though February’s was revised up to 8.6%. Japan’s April jobless rate stayed steady at 2.5%. In the UK too, the unemployment rate for March (3 month average) remained unchanged at 4.2%. As for the US, the jobs market continues to defy gravity, with the unemployment rate for April falling further to 3.9% from 4.1%. The last few years have seen steady declines in unemployment across the developed world (and indeed elsewhere) but as we approach the end of the cycle we will at some point see rates stabilise. Whether the stable rates in the Europe, Japan and UK represent the first signs of this is unclear but we shall be watching things closely – and of course scrutinising central bank meeting minutes for any change in language.
Talking of change in language, the US Federal Reserve have recently introduced a new word into their lexicon – ‘symmetry’. They used this in relation to inflation, making the point that if inflation had been below target as it was following the crisis, then there will be times when inflation is above target. In other words, inflation would be ‘symmetrical’. This was generally seen as a dovish statement hinting that inflation may be allowed to rise further before a response in the form of an interest rate rise was required.
In the UK, having warned markets in April not to expect a rate rise in May, the Bank of England delivered on its word. As a result, sterling weakness that had begun in April continued into May, though this will have been due to US dollar strength as much as anything.
Thus, May was a month in which expectations of interest rises in the US and the UK were pushed back somewhat though there is no suggestion that this is anything other than a pause. Wages across the developed world continue to accelerate, and central banks will be well aware of this, even if there is at the moment a slight moderating of economic activity.
As for fund activity, we lowered equity weights further across all our funds at the end of May in line with our road map we have set out for a gradual reduction in equity risk as we get closer to the end of the current economic cycle. We reduced Europe ex UK by 1 percentage point. All proceeds were moved into cash. It should also be noted that in order to maintain income generation in the two income funds, we moved 1 percentage point of the direct holdings in the UK into the Insight Equity Income Booster Fund which yields close to 8%.
As far as the outlook is concerned, there has been no reason to change our view that inflation pressures continue to build and therefore that central banks will need to continue to tighten monetary policy. This tightening will not in our view trigger an economic contraction any time soon but it will likely slow the pronounced equity market progression of recent years.
Published in Investment Letter, June 2018
The views expressed in this communication are those of Peter Elston at the time of writing and are subject to change without notice. They do not constitute investment advice and whilst all reasonable efforts have been used to ensure the accuracy of the information contained in this communication, the reliability, completeness or accuracy of the content cannot be guaranteed. This communication provides information for professional use only and should not be relied upon by retail investors as the sole basis for investment.
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