Perspectives – Markets have turned on a six pence: what does higher for longer mean for markets?

For information purposes only. The views and opinions expressed here are those of the author at the time of writing and can change; they may not represent the views of Premier Miton and should not be taken as statements of fact, nor should they be relied upon for making investment decisions.

For the final quarter of last year, markets were pricing in an increasingly dovish outlook for Fed Funds (see chart below). However, since the turn of the year, markets have been pricing in a more hawkish environment, or a higher for longer environment (in the chart we have used the amount of rate cuts that markets expect in Fed Funds by the end of the year, as a proxy for the Fed Funds outlook).

The graph also shows that the outlook for Fed Funds continues to be a key driver for bond and currency markets. For example, the more hawkish outlook this year has led to a stronger US dollar and a higher US Treasury yield, the reverse of the dynamics at the end of last year.  

 

The outlook for Fed Funds and what it has meant for US currency and Treasury markets.

Source: Bloomberg Finance L.P –  04/10/2023 – 01/05/2024

 

Inflation has been hotter than the market expected this year and, logically, higher expectations for Fed Fund rates have supported higher US Treasury yields and a stronger US dollar. Indeed, the US Treasury 10 year yield hit a five month high last week.

Our clients are very aware that we have had a higher for longer inflation environment as our base case for almost two years now. We continue to see elevated inflation risk, and this has a major impact on how assets behave in relation to each other, which is of upmost importance when running multi asset. For example, we wouldn’t expect bonds to help diversify equity risk when inflation risk is front of mind.

Equities, meanwhile, have been dancing to their own beat, yes they benefited in the last quarter when rate expectations were more dovish but, even in the more hawkish months of this year, they have been moving higher, regardless of higher US treasury yields and a stronger US dollar. Strong US growth fundamentals, at a macroeconomic and corporate level, have provided some support to risk assets, though there has been an attempted pullback in equity more recently.

The outlook for Fed funds continues to drive markets, as it has done for decades. The difference over more recent times is that it is a concern around (hot) inflation, not (weak) growth that is the underlying dynamic. Markets are now only pricing in one cut this year, versus six cuts at the beginning of the year. Is it a hike, rather than a cut next in play?

It’s not our approach to be so precise with our expectations. In part, it’s because such precision will rarely be right but even if it is, how much more helpful is it than getting the trend right? As such, we remain with our higher for longer trend base case. For portfolios this means short duration in bonds, providing attractive income but with minimal expectations for diversifying equity. Elsewhere we remain materially exposed to real assets, for example equity, commodities and some property.

 

Anthony Rayner

Premier Miton Macro Thematic Multi Asset Team

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Risks

The value of stock market investments will fluctuate, which will cause fund prices to fall as well as rise and investors may not get back the original amount invested.

Forecasts are not reliable indicators of future returns.

IMPORTANT INFORMATION:

For Investment Professionals only. No other persons should rely on the information contained within.

Whilst every effort has been made to ensure the accuracy of the information provided, we regret that we cannot accept responsibility for any omissions or errors.

The views and opinions expressed here are those of the author at the time of writing and can change; they may not represent the views of Premier Miton and should not be taken as statements of fact, nor should they be relied upon for making investment decisions.

Reference to any particular stock / investment does not constitute a recommendation to buy or sell the stock / investment.

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Premier Miton Investors has expressed its own views and opinions on this website, and these may change and there is no obligation to update them. Nothing in this website should be construed as investment, tax, legal or other advice. The information contained herein is subject to change without notice.

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By clicking accept you acknowledge that your use of this website is subject to our privacy policy, cookie policy and our general legal and compliance information available on our website.

THE UNITED STATES OF AMERICA: The investment products referred to on this website have not been and will not be registered under the United States Securities Act of 1933, as amended. They may not be offered or sold in the United States of America, its territories and possessions, any State of the United States of America or the District of Columbia or offered, sold or transferred to US Persons (as defined below). The investment products referred to on this website have not been and will not be registered under the United States Investment Company Act of 1940, as amended. Premier Portfolio Managers Limited has not been and will not be registered under the United States Investment Advisers Act of 1940.

 “US Person” generally includes the following: (a) any natural person resident in the United States; (b) a partnership or corporation organised or incorporated under the laws of the United States; (c) any estate of which any executor, or administrator, is a US Person; (d) any trust of which any trustee is a US Person; (e) any agency or branch of a non-US entity located in the United States; (f) any non-discretionary account or similar account (other than an estate or trust) for the benefit or account of a US Person; (g) any discretionary account or similar account (other than an estate or trust) held by a dealer or other fiduciary organised, incorporated or (if an individual) resident in the United States; and (h) any partnership or corporation if: i. organised or incorporated under the laws of any non-US jurisdiction; ii. formed by a US Person principally for the purpose of investing in securities not registered under the 1933 Act. In addition, a Shareholder must qualify as a “Non-United States Person” as used in the US Commodity Futures Trading Commission (“CFTC”) Rule 4.7.

 Investment products referred to on this website may not be sold or transferred to a US citizen, or an entity taxed as such or required to file a tax return as such under the United States federal income tax laws (a “US Tax Resident”). If those investment products are held by a US Person, a US Tax Resident or a person who does not qualify as a “Non-United States Person” within the meaning of CFTC Rule 4.7, Premier Portfolio Managers Limited shall be entitled to redeem such Shareholder’s entire holdings.