Investment Market Commentary – Q3 2024

Overview

Throughout the third quarter of the year, the primary factors influencing asset prices were elections and the monetary policy decisions taken by central banks. The quarter began with the UK general election, followed by destabilising snap elections called in both France and Japan, all while speculation about the US election persisted. During this period, both the Bank of England and the Federal Reserve reduced interest rates for the first time since the end of the pandemic. The European Central Bank also continued its rate cutting, which commenced in the previous quarter and inflation declined across the developed world, justifying the looser monetary policy. The US economy appeared to end the quarter in good shape, despite some initial concerns, whereas the UK and Europe appears to be slightly behind in  keeping pace with the growth experienced across the Atlantic.

Equities

Equity markets suffered a slight slowdown in the momentum they had benefited from in the first half of the year, with many returning either level, or low single digit returns in sterling terms. Chinese equity was the strongest performing sector, rallying towards the end of the quarter following the announcement of government stimulus and Technology was the weakest sector as concerns of a recession affected the high values placed on these companies most.

In 2024, the US has been the strongest performing western equity market, and this continued early in the quarter with the S&P 500 hitting an all-time high in July. The values placed on American companies continued to be high in comparison to their global peers, but many of the more highly valued companies did suffer declines in the price of their shares in August due to brief concerns that poor economic data would lead to a recession. The federal reserve commenced its rate cutting cycle, with a double rate cut to address concerns about a potentially slowing economy which aided in the recovery of share prices towards the end of the quarter.

In the UK, economic data for the third quarter suggests that the economy is growing but at no great speed and the office for budget responsibility suggested that the chancellor’s budget in October was unlikely to increase the pedestrian growth forecasts for the UK economy. The Bank of England made its first interest rate cut in August which was justified by sustained lower inflation figures and the cutting cycle is expected to provide respite for UK consumers and companies after a sustained pressure on the cost of living. Following the general election, UK companies generally performed well, as investors viewed this as a return to political stability. However, some of these gains were later affected due to concerns about the upcoming October budget.

The European Central bank made its first rate cut earlier than UK and US monetary policy makers but cut again in the third quarter. The European economy seems to be in a worse condition that that of the US and as a result further rate cuts are expected to stimulate the economy. The European economy has been affected by political instability throughout the year, including election results where more radical ideologies have begun to gain greater representation across the continent. The European economy, most notably Germany, has faced issues in its manufacturing sector due to increased competition resulting in the introduction of tariffs targeted at Chinese electric vehicles, but German car makers are concerned that this will impact reduce their orders from China.

Asian and emerging market equities had a challenging third quarter primarily led by the continued poor performance of Chinese equities. This has been due to a persistently weak property market, concerns about domestic consumption and a general reversal in sentiment as many expected strong performances of Chinese shares once the pandemic era had elapsed. Despite a poor quarter, Chinese equities rallied after the federal reserve cut rates in the US and the Chinese Communist party announced a package of measures designed to stimulate the economy. This resulted in share prices appreciating so much that in the last days of the quarter Chinese equities became the best performing asset class in our portfolios.

In contrast to other developed economies Japan has been battling with inflation that is too low, the Bank of Japan was able to increase their interest rates once more to normalise monetary policy which was seen by investors as a positive sign for the Japanese economy. As rates are being cut in the rest of the world this caused a peculiar phenomenon in that whilst Japanese stocks fell in value, sterling investors still ended the month up, due to exchange rate differentials. The quarter was incredibly turbulent as Japanese equities who suffered the worst trading day since 1987 at the start of August, due to a combination of factors, but then recovered by early September only to experience more volatility after the new prime minister called a snap election within a month of taking office.

Bonds

Towards the end of 2023 bond markets had begun to anticipate interest rate cuts causing yields to fall and prices to rise. However, these rate cuts did not materialise as quickly as markets expected and for much of the year yields have been creeping back up forcing bond prices back down to a level closer to where they were at the end of the hiking cycle. In the third quarter rate cutting commenced in both the UK and US, following Europe’s lead in the quarter prior. Combined with changing perceptions about economic performance, upward pressure on yields relented and prices began to realign with sentiment at the start of the year enabling lost ground to be regained in many cases.

Central banks in emerging markets were much quicker to increase their interest rates than those in developed economies in the period of post pandemic inflation and expectations were that their rate cutting would commence with the same urgency. However, this expectation has turned out not to have been the case with many still early in their cutting cycle, this is likely due to the delay of the US federal reserve’s first rate cut as US monetary policy does have a significant impact on developing economies.

Summary

Despite the events of the third quarter, the global economy remains in reasonably good shape. Elections were scheduled in many of the world’s major economies, and several unexpected snap elections added to potential instability. Geopolitical risks have escalated, with conflicts in the Middle East and Ukraine intensifying, and changes in the political figures involved in negotiations, both in name and approach.

The commencement of the rate cutting cycle across developing economies has now set a direction, whereas in prior quarters speculation about the direction of rates and how extreme the decisions might be fuelled volatility. As yields are now more closely aligned with reality

The quarter demonstrated that even when economic sentiment is poor and political instability undermines confidence, a long-term, well-diversified strategy can still enable investors to profit. The relatively slow quarter for US equities, which led the market for nearly two years, were supported by the stronger performance of more interest rate-sensitive assets in the portfolio, despite these assets not being particularly attractive to many investors in recent years in the periods where US equities enjoyed incredible performance. This demonstrates that holding a diverse array of asset classes continues to be a viable strategy through the market cycle whilst enabling investors to reduce overall portfolio volatility.

Market outlook

As we approach the end of 2024, market sentiment is largely optimistic. The reduction in interest rates is seen as a sign of economic strength rather than a recession-prevention measure. The U.S. economic outlook is the strongest, but Europe’s situation may not be as dire as it seems, and both Asia and emerging markets offer promising opportunities.

Global equities have performed well year-to-date, driven by robust earnings, particularly from large U.S. tech companies, and positive sentiment about the continued growth due to AI. Despite high valuations, a favourable post-election environment suggests potential for further growth, contingent on successful AI investments. Lower interest rates in the U.S. have created a supportive environment for equities globally, with expectations of continued gradual rate decreases. There are slight concerns about potential tariffs on foreign goods by Donald Trump, which may restrict global trade and lead to rising inflation, keeping interest rates higher for longer.

European companies face stiff competition and reduced Chinese demand, with U.S. tariffs posing additional risks. Yet, Europe is ahead in the rate-cutting cycle, benefiting corporate profits. Established European brands have strong market positions and growth potential compared to U.S. counterparts.

Emerging markets are likely to be affected by changes in global trade policy, with the Chinese economy being a target for the incoming US administration. However the stimulus package introduced by the Chinese government has boosted share valuations, and its continuation will be crucial for the performance of Chinese equities and related markets.

In bond markets, prices are influenced by the economy’s performance and policy decisions, with the US tending to have a greater impact than most due to the dollars function as the global reserve currency. At present yields are relatively high due to increased interest rates, and further rate cuts could boost bond values. As interest rates drop, bonds typically gain value, and investors with maturing cash deposits may reinvest in bonds, supporting price increases.

Government bond yields are expected to benefit most from rate cuts but might not fall as much as expected due to concerns about deficits and spending particularly by western governments. If economic growth disappoints, bonds could provide returns as the market anticipates a gradual rate-cutting cycle and this would support poorer performance in other asset classes.

Corporate bonds have been in high demand in 2024, reducing the extra interest payable over that is available on government bonds. This demand reflects confidence in the economy and issuers, but growth potential could be limited. Rate cuts will likely benefit longer-dated, high-quality corporate bonds. Higher yielding corporate bonds, issued by less creditworthy entities, have performed well this year due to their correlation with equities. As the economy appears to remain strong, selective exposure to high-yield bonds can offer good returns, compensating for the additional risk.

Local currency bonds in emerging markets have underperformed in 2024 due to high interest rates and political instability. However, as rates fall in developed economies, these bonds could become more attractive, and investors might shift to emerging market debt, amplifying the effect of rate cuts by local central banks, increasing returns.

We believe that our proposed changes will improve the future growth potential of our portfolios, whilst maintaining the level of volatility experienced within a range that is deemed suitable for each Investor. We can also confirm that the fund charges being incurred within each of our models will either remain the same, or in the case of some portfolios, be reduced slightly, as a result of the changes being made.

The following documents provide more detail around the recent performance, updated new fund selections recommended for each of our Model Portfolios: