Monthly Market Commentary - November 2023

Global equities continued to struggle in finding any headway last month amidst a growing acceptance among investors of a higher-for-longer interest rate environment, with the MSCI All Country World Index returning -2.4% for October, in sterling terms. UK government bond markets were slightly lower on the month, with a broad-based gilt index returning -0.5%.

The outbreak of war in the Middle East has dominated the news wires in recent weeks but while the situation is undoubtedly a humanitarian crisis, it has, thus far, not had a major impact on financial markets at large. The initial reaction saw a sharp move higher in the commodity space with oil spiking on the potential for further escalation and gold catching a bid on safe-haven flows.

However, the oil price has since stabilised with Brent crude, an international benchmark, ending October, down 5.2%.  The lack of a sustained move higher in price on increased geopolitical tensions in a crucial region for oil production is perhaps surprising to some, but for now there is little indication that supply will be disrupted and there also remains larger concerns on the demand side with global growth forecast to remain muted in the face of higher interest rates.

Whereas Oil has pared the initial move to the news, gold has remained elevated, rising 7.3% in October to trade back near the US$2000/oz level – less than 5% below its all-time high. Although Middle Eastern troubles have attracted new investors to bullion, recent events are seemingly playing a small part with the bigger picture being record levels of central bank purchases, led by China, as countries look to hedge against inflation and reduce their reliance on the US dollar.

There has been a 14% annual increase in central bank buying in the first nine months of 2023, as 800 tonnes of the precious metal was purchased, according to the World Gold Council. China, the largest buyer, accounts for 181 tonnes of that and now has 4% of its reserves invested in gold.

UK equities underperformed last month, falling 3.6%, as financials and healthcare stocks weighed. Europe ex-UK was a similar story, returning -3.0%, but US stocks posted a marginal outperformance by declining only 2.0% in sterling terms, aided by a 0.4% decline in the sterling to US dollar rate. Despite the growing acceptance of a sustained higher-rate environment, technology stocks – typically among the most rate sensitive – held up pretty well.

Third quarter earnings season produced a mixed bag of results and is in keeping with an overall outlook for the global economy that suggests modest growth going forward. There is a feeling that because economies have held up ok despite the sharply higher level of interest rates, the chance of a sharp contraction has diminished. However, the probability of a substantial decrease in central bank base rates in the next year or two has also dropped, removing one of the potential catalysts for a stock market rally.

The reaction of the so-called “Magnificent Seven” stocks – Alphabet (formerly Google), Amazon, Apple, Meta (formerly Facebook), Microsoft, Nvidia and Tesla – to the latest updates is perhaps a little telling with a generally decent set of figures met largely with indifference. Together these stocks account for a substantial chunk of 2023 gains in US indices, where they have a collective weight of around 28%, and have a noticeable impact on global benchmarks, due to the US weighting of over 60%.   

Fiscal concerns?

 An increasingly prominent theme among market participants in recent weeks has been US fiscal sustainability, as fears grow surrounding the burgeoning levels of debt in the world’s largest economy. The US government has taken on debt to fund spending in excess of income for much of the 21^st century and the deficit has increased sharply in recent years, through the provision of pandemic-related support and the funding of the Inflation Reduction Act (IRA).

The US Treasury announced in August that it was dramatically increasing its borrowing across the board, a move that subsequently sent yields on 10- and 30-year US government bonds to their highest levels since 2007. In response, at the start of November the Treasury announced that it would slow the pace of issuance of 10- and 30-year bonds, although shorter-dated notes will continue to be issued at the pace set out three months ago.

The announcement, on the day the Federal Reserve declared it would maintain its funds rate at 5.25%-5.50% - chair Jerome Powell stated that the decision was in-part based on the tightening of financial conditions brought about by higher bond yields - caused a sharp move lower in bond yields but longer-term doubt remain. Also concerns are mounting at the growing cost of servicing this debt in an environment where interest rates are seen remaining at much higher levels than they were when it was taken out. 

UK government bond yields outperformed their US counterparts in October, 12 months on from dealing with its own, more dramatic, fiscal concerns. The short-end of the gilt curve outperformed the long end and index-linked bonds, reflecting a consensus view that the Bank of England (BoE) won’t increase rates any further.

This was supported in early November at the penultimate monetary policy meeting of the year, as rate setters voted in favour of maintaining the base rate at 5.25% for the second successive meeting. The 6-3 vote was greater than the 5-4 split last time out but governor Andrew Bailey struck some hawkish tones in his press conference, insisting it was “much too early to be thinking about rate cuts.”

Summing up, economic activity continues to hold up relatively well in most places despite the higher level of interest rates – the US being the shining light, reporting a 4.9% annualised pace of GDP growth in Q3 – but the growing acceptance of a higher-for-longer environment has seemingly removed, for now, one potential catalyst for equities to rally. Valuations look fairly reasonable on the whole and the latest corporate updates suggest prospects for a sharp contraction have diminished, albeit alongside a drop in the chances of a large improvement in the short-term.

We believe fixed interest offers attractive long-term value at these levels and that central banks are close to, if not already at, a peak in rates. We are generally overweight duration, positioning ourselves to benefit from a fall in yields, and slightly underweight credit versus government bonds.