Written by Shane Balkham
Inflation readings still capture the headlines, albeit with less urgency than a year ago. Inflation in the majority of developed economies is at or approaching target levels, but it is interest rates that remain elevated as central banks wrestle with the timing of cuts.
UK inflation ticked upwards to 2.3% in October (year-on-year), largely driven by the increase in energy prices after government subsidies were reduced. The consensus among most market commentators is that the Bank of England will look through this minor surprise and keep its trajectory for rate cutting, with the next easing expected at the meeting on 6th February, which will be the first meeting of 2025.
The path to normalising interest rates appears to be bumpier than the Bank of England and the US Federal Reserve may have expected, with policymakers juggling the unknown outcomes from rate cuts and the policy changes emanating from the changes in governments. Caution appears to be the preferred option.
The dilemma for the central banks is the desire to reduce interest rates to a level that is considered more normal, without reigniting the threat of inflation. This seemed relatively straightforward until the UK budget threw different assumptions into the decision-making process. While the Bank of England is committed to reducing interest rates, it is a trickier path to plot.
The Federal Reserve also have the same dilemma, as a new presidency will bring with it new challenges. Last week saw Donald Trump start to set up his cabinet and there were fears that individuals would be placed into roles that did not match real-life experience or expertise. One of the key positions is treasury secretary, where markets prefer orthodoxy and predictability. Scott Bessent has been picked, who was one of Trump’s biggest financial backers and a well-regarded investor on Wall Street.
While we wait for President Trump to take his second term, institutions start playing the prediction game for 2025. It is incredibly difficult to predict economic growth rates and market levels; this year we saw revisions to end-of-year predictions as early as Easter. A predicted reduction in tax rates is currently powering US equity expectations, as one of the key proposals of Trump’s campaign was a cut to the corporate tax rate for domestic production from 21% to 15%. During Trump’s previous term, the broad corporate tax rate was reduced from 35% to 21% and boosted business investment and profits.
The actual impact is certainly unclear, as the tax cuts would only apply to US-based production, with Trump adding that firms that outsource, offshore, or replace American workers would not be eligible for the tax cuts. According to J.P. Morgan Asset Management, only 18% of the companies in the S&P 500 by market cap derive more than 80% of their revenues domestically and would therefore qualify for the 15% tax rate.
There is naturally a level of uncertainty regarding the US until Donald Trump is inaugurated on 20th January. While markets are posturing, geopolitics are also moving for position. The conflict in Ukraine intensified with the doubling down of support from the international community. Longer-range ordnance from the US and UK has helped Ukraine extend its attack. If Trump does seek an end to the conflict, the big unknown is how he will achieve this, and the escalation, to some degree, is seeking to ensure Ukraine is in a strong position when the negotiations begin.
With such uncertainty ahead, sticking to your discipline is critical. The importance of having an appropriately globally diversified investment portfolio is as strong as ever.
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All the data contained in the communication is believed to be reliable but may be inaccurate or incomplete. Unless otherwise specified all information is produced as of 25th November 2024.
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