Markets Weekly podcast – 12 September 2022

Henk Potts (HP): Hello. It’s Monday, 12th September and welcome to the Barclays Private Bank Markets Weekly podcast, the recording that will guide you through the turmoil of the global economy and financial markets.

My name is Henk Potts, Market Strategist for Barclays Private Bank. I’m here to discuss both risks and opportunities for investors.

I will start by analysing the events that moved the markets and grabbed the headlines over the course of the past week. I’ll then go on to preview the major events and data releases that are likely to shape the week ahead.

As we know, it was another dramatic week for global financial markets. Investors weighed up the implications of the escalating energy crisis in Europe, a radical shift in policy by the British government, and an aggressive rate hike by the European Central Bank.

Equity markets rebounded, gold and oil slumped, and sterling fell to its lowest level since Margaret Thatcher was in power. The S&P 500 rose 3.1% over the course of the week. In Europe, stocks posted their first weekly gain in a month on hopes that governments can, indeed, introduce policies to mitigate the impact of rising energy bills. Banks, which we know benefit from higher rates, were amongst the biggest gainers after the European Central Bank committed to further rate hikes. The STOXX 600 in Europe was up 1.3%.

Gold drifted lower last week as bond yields surged and the dollar continued to strengthen. Gold fell below $1,700 an ounce, a fall of more than 5% over the course of the past month, down 6.6% year to date.

The decline comes despite elevated levels of geopolitical tensions and multi-decade high inflation. The US 10-year yield was at 3.28% last week, creating greater competition for the zero-interest-bearing precious metal. Meanwhile, the US dollar has surged to a two-decade high, making purchases more expensive for non-dollar denominated investors and buyers.

Investment demand has also been easing back. Exchange-traded funds have cut their holdings for nine straight days. The total gold held by ETFs is back to its lowest level since 10^th February.

In terms of gold’s placement in the portfolio, we still think that gold should be used as a diversification tool, but we don’t think it can drive long-term growth. Gold is more likely to preserve wealth during periods of turbulence rather than grow portfolios over time. Therefore, we think allocation should still be in that very low single-digit range.

Sterling fell to a near four-decade low against the dollar last week, cable hitting 1.14 for the first time since 1985. The weakness has been driven by the deteriorating economic outlook for the UK economy, rising borrowing requirement to fund the energy support package, and the widening trade deficit. A lower inflation profile, due to the support programme, could also limit future rate hikes by the Bank of England.

Elsewhere, in commodities, crude slumped to its lowest level since the start of the year. Brent dropped below $90 a barrel, as traders worried that the stronger dollar, weakening global activity, and the implementation of movement controls in a number of major Chinese cities will reduce demand.

China imposed restrictions in Chengdu and Shenzhen, and data showed consumption of the world’s largest importer fell 9.7% in July, in fact to its lowest level in two years. The decline came despite the ongoing supply risk from Russian oil and OPEC+ decision to make a symbolic cut in production levels coming through in October, although OPEC data still shows you that demand will outstrip supply in the fourth quarter, leading to an inventory drawdown of round about 300,000 barrels per day, according to Bloomberg data

The European Central Bank meeting took centre stage, from which the Governing Council sent a clear message to markets that they are determined to tame inflation and normalise policy, despite the risk of recession. Policymakers delivered an unprecedented three-quarter point hike, pushing deposit rates to 0.75%, that’s the highest since 2011 and pledged that several further increases were on the cards.

The historic increase came after inflation hit a record 9.1% in July and the central bank appeared concerned that inflationary pressures are starting to become entrenched. Staff raised their inflation projections to average 8.1% this year, then 5.5% in 2023, 2.3% in 2024.

The European Central Bank forecast is for the economy to slow down substantially later this year as high inflation is dampening firms’ production and people’s spending, less demand from the rest of the world, and a slump in business and consumer confidence.

In terms of our forecast, we now expect average euro area real GDP growth to be minus 1.1% next year, with inflation averaging 6.3%. We expect the European Central Bank to back up its bumper hike with a further 75 basis points in October, 25 basis points at the December meeting, taking the deposit rate to 1.75% at year end.

The new British government’s plan to mitigate the impact of higher energy bills is expected to dramatically alter the UK’s inflation profile. Based on the new cap, we now predict that UK inflation peaked in July at 10.1%, will be slightly below 9% at year end, before dropping quickly through the course of next year as the negative base effects of energy pass through. We now see UK CPI printing at 3.9% in December 2023.

In terms of the impact on policy, the cap supports, we think, argue that the Bank of England will hike by 50 basis points at the September meeting and 25 basis points at the November meeting, but will then remain on hold at 2.5% as job creation cools, economic activity slows down, and falling inflation removes the support for a prolonged hiking cycle.

In terms of inflation, well that will continue to be a key market driver during the course of this week as we await the latest US inflation print on Tuesday. We expect the August headline reading to show a further moderation, forecast that CPI will decline by one-tenth of 1% month on month, or coming in at 8% year on year, with a decline in energy prices helping to offset elevated food inflation, though shelter is still likely to be strong and is anticipated to push core inflation higher, printing at plus three-tenths of 1% month on month, 6.1% year on year, although we do expect price pressures in housing to ease in the coming months.

The report, we think, should add weight to our theory that US price pressures will continue to moderate. Markets will monitor the inflation data and the labour market reports very carefully, as they are likely to define the size of future rate hikes by the Federal Reserve.

One point to note, of course, is the Bank of England’s interest-rate decision has been postponed from this week and will be delayed until 22^nd September.

With that, I’d like to thank you once again for joining us. I hope you found this update interesting. We will, of course, be back soon with our latest instalment, but for now may I wish you every success in the trading week ahead.