February 03 2023
I am very much at risk of sounding like a broken record, again, but… it was again a week when central banks around the world stole the limelight. In the US, the Federal Reserve raised the target range for the fed funds rate by 0.25% to 4.5%-4.75%. This was in line with market expectations.
There used to be a saying ‘Don’t fight the Fed’, which investors for a long period of time followed religiously. The market however, appears to be reneging on that just now. At the press conference held after the decision was announced, despite the lower rate of increase, Powell reiterated the previous central bank stance. They continued to remain of the opinion that ongoing increases are likely to be appropriate in order to reach a level which was consistent with bringing inflation back to the 2% level. Whilst the size of further increases will be data dependent, they believe that they still need to see “more evidence to be confident that inflation is on a sustained downward path”.
This would suggest that the chance of a Fed Pivot appears some time away. Despite this, however, the market continues to disagree with the path of interest rates as expected by the central bank. The latest ‘dot plot’ suggests that the fed funds rate will reach a level of 5%-5.25% and then remain here for the rest of 2023. The path of interest rates implied by the futures market however suggests a lower peak and that we will see interest rate cuts this year. Perhaps Powell is now regretting the use of the word ‘disinflation’ in his statement, or, after getting the transitory call wrong, the market is placing less importance on his forecasts.
In the UK we also saw a rate increase, a move of 0.5% which takes the base rate to 4%, the highest level we have seen since 2008. Whilst further rate increases are still expected, potentially peaking at 4.5%, it was noted that the Bank of England had dropped the pledge to keep increasing interest rates forcefully. They also added some comfort regarding inflation, commenting that it had likely peaked. It was these two comments which the market seized upon and at the time of writing the 10 year gilt trades at a yield of only a little over 3%. To place this in context, on the 3rd January the yield closed at 3.65%.
In the Euro area the ECB also acted in line with expectations, raising rates by 0.5% to 3%. They also pledged to deliver another 0.5% rate hike at the March meeting, now there is forward guidance for you! They reaffirmed that the ECB would stay the course in terms of raising rates and then keep them at a level which is consistent with achieving the 2% inflation target.
We have also seen the latest economic predictions for the global economy for 2023 by the IMF. They now forecast that the global economy will grow by 2.9% in 2023 which is 0.2% higher than the previous forecast they made in October 2022. Initially of some disappointment to the market, they predict that the UK economy will contract this year, the only member of the G7 to see this. Markets soon moved on however, with other events taking precedent. In emerging markets growth is expected to remain strong, with the Chinese economy posting a higher rate of growth than last year as it continues to reopen and relax Covid restrictions.
Finally, we end with UK dividends. Bringing good news for income investors, the latest Link Group UK Dividend Monitor showed that FTSE 100 dividends grew by 9.1% in 2022, 14.8% if you exclude special dividends. FTSE 250 dividends meanwhile grew by 5%, 23.8% when excluding specials. Not only that, but a record level of share buybacks were seen, equating to 2% of market capitalisation. Looking forward, dividends are expected to grow more sedately in 2023 due to lower payouts from miners and the potential effect that an economic impact will have on corporate earnings. Excluding specials however, they still forecast that they will grow 1.7% this year, rising to £86.2bn. This could mean a yield on the FTSE 100 of 3.8% and 3.1% on the FTSE 250.
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