Investment commentary covering July 2024

The recent video commentary, recorded in early July by Avellemy, one of our panelled investment management partners, covered the first 6 months of 2024 and briefly laid out what the team saw as key issues likely to shape the economic, financial and political outlook for remainder of the year. We don’t intend to reiterate those messages via our usual monthly commentary, but as Lenin once said, “There are decades where nothing happened, and weeks where decades happen”.

Significant events in the last three weeks

The three weeks since we filmed the report have seen an assassination attempt on Donald Trump, the withdrawal of Joe Biden’s candidacy for the Democratic nominee for the Presidency, UK interest rates cut, Hamas and Hezbollah leaders assassinated, and a complete volte face in market sentiment.

US Economic indicators and market reactions

From an investment viewpoint, understand that in financial markets, the US always dominates the narrative; the most significant chain of events began on Wednesday 31st July with the US Federal Reserve (Fed) Open Market Committee’s decision to hold interest rates - maintaining the 5.25% rate introduced exactly a year earlier – despite growing evidence that the jobs market was weakening. Data on jobless claims is published fortnightly and has been rising steadily since October last year, however Thursday saw shockingly weak additional numbers on manufacturing employment, the lowest since the pandemic shock and the deepest fall for 21 years without a recession following. Friday’s non-farm payroll data declared US unemployment at 4.3%, almost a full 1% higher than its 50-year low in April last year, and new jobs added at a rate 40% lower than the number required to keep up with the growth in population driven by the growth in immigration.

Sahm rule and recession indicators

One reason the data have had severe consequences is due to them triggering a rather esoteric economic indicator known as the ‘Sahm Rule’; this opines that the economy is in a recession when the 3-month moving average of the national unemployment rate exceeds the lowest 3-month moving average unemployment rate from the previous 12 months by 0.5% or more. The rule is one of the Fed’s favoured recession indicators and over history has been seen to be virtually foolproof. Coupled with the US Conference Board’s leading economic indicators (which have been flashing red for impending recession for almost two years), the probability of a harder landing for the US economy, if not an outright recession, is now considered significantly higher. Companies’ expected future earnings, profits and dividends are thus scaled back, and hence current share prices (which are simply the net present value of future earnings) will correct. 

Global market impacts

The knock-on effect has not been insignificant. Japanese equities were already down over 7% from their all-time high earlier in July, but the combination of the Bank of Japan raising rates on Wednesday, the Fed not cutting on Thursday and the US unemployment figures on Friday have extended those falls into something of a rout. The Nikkei index of Japan’s largest 225 companies has fallen a further 20% in three sessions, Monday (as we write) being down 12% - worse than in the 1987 crash. The US and UK markets are responding rather less punishingly, but negatively, nonetheless.

This sequence of events suggests several things to me:

• Where the markets previously interpreted weak data as justification for rate cuts (perversely, bad news was good news), now it is seen as an indicator of recession. Bad news really is bad.
• The Bank of England’s decision to cut UK rates adds weight to the view that the US has left rates high for too long, after raising rates too late.
• The Fed would have cut rates had they seen the data (don’t these people talk to one another?) rather than coyly suggesting a cut in September.
• The Fed may have to cut by a full 0.5% at that meeting – but there is nothing to stop them taking ‘emergency’ action before that.
• Equity markets have responded as might be expected – especially tech stocks - and bond investors are going to do rather better in this scenario as yields fall, thus doing their job of insulating lower-risk portfolios from extreme equity volatility.

Political developments and market implications

As for politics, the nomination of Kamala Harris has had a remarkable impact on the US election poll numbers. Trump’s almost unassailable lead has been reversed and as we write* Harris has a slight advantage nationwide, while the so-called ‘battleground states’ numbers are now very closely matched. Given Trump’s more intelligible pronouncements confirmed potentially inflationary policies would be implemented (tax cuts for the better off and hefty import tariffs on just about everyone) after his election, the polls’ updates are likely to have some effect on investment markets over the next 3 months.

Oil prices and Middle East tensions

Oil prices have fallen over 12% during July, and the increased tension in the Middle East following the deaths of Hamas and Hezbollah leaders seems not to have had an effect yet. The weak price ($75 as we write) reflects lower demand in Asia, and the increased likelihood of a global economic slowdown. Any escalation in activity by either Israel or Iran may obviously have an impact, but in the face of falling prices many oil fields will be cutting production rather than selling it at a low price. Last month, there were 10% fewer rigs operating in the US than at the same point last year. On a similar ‘recessionary’ theme, global prices of industrial metals are falling too.

Conclusion

In summary, uncertainty and consequent price volatility is back for the time being, but that ‘goes with the territory’. That said, significant (and perhaps on reflection knee-jerk) price falls are often followed by upside bounces as the dust settles.

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