- Mini-budget incoming
- Fiscal loosening expected
- Equity markets remain unsettled
Where’s the mandate? I’m all for lower taxes and a smaller state, but where is the mandate for some of what’s being talked about in this mini-Budget? Perhaps that’s one for political and constitutional analysts to discuss – should Truss have been forced to call an election? Anyway, chatter this morning points to the biggest fiscal event in decades with all kinds of tax cuts, from stamp duty to the basic rate of income tax. An IFS-Citi report argues the Kwasi-Budget is unsustainable with too much borrowing just as rates go up. There’s even talk about changing the time – running British Summer Time all year round. Where is the mandate, or the evidence to support this move? The fact there is no economic forecasts attached to this event show the contempt with which our elected leaders treat people. Clearly the OBR won’t be marking Kwasi’s homework with an A*.
Bond markets went into convulsions yesterday, the yield on the benchmark US 10yr Treasury note jumping from 3.5 per cent to above 3.7 per cent, whilst 2s surged through 4.16 per cent. At one point the gap between 2-year and 10-year Treasury yields was the most invested since 1981. US mortgage rates leapt to 6.3 per cent, the highest since 2008 – everyone now saying the property market will be the next to go after equities and bonds.
Gilts were in paroxysms as the Bank of England raised rates to the highest since 2008 and investors looked ahead to this mini-Budget and what it will mean for borrowing. The 10yr gilt yield topped 3.5 per cent for the first time since 2011 after the chancellor announced the government would reverse the national insurance increase. Spreads with European neighbors widened, the gap between UK and German debt its largest since 2015.
Deficits matter…or do they? The widening trade deficit, which rose to almost an all-time high £27bn in the three months to July, is one half of a twin deficit that leaves traders bearish on the pound. And all these tax cuts won’t help the other half of the UK’s twin deficit – the budget deficit – and it could lead to further re-pricing for sterling. Citi: “Fiscal and external risks are now, in our view, a first-order concern … Further cross-market cheapening seems likely,” and: “It is not at all clear in our view the external picture will be sustainable without some more extensive price adjustments.” But…if the measures to be announced today and subsequently by the government do increase long-term productivity, spur sustainable GDP growth above 2% and usher in a new pro-business era then maybe it’s the kind of step-change that the country needs. On the other hand, abandoning any semblance of fiscal discipline is not usually a recipe for long-term confidence in the country’s assets.
Bank of England hikes
Still too slow, still complacent. Andrew Bailey’s tenure at the Bank of England has been marked by a lethargy and complacency that whilst at least consistent with peers at the outset, is now looking worryingly out of step. True, the MPC voted to raise rates by 50bps to a 14-year high. But equally true is that the 2.25 per cent Bank rate vs 9.9 per cent CPI inflation is just not credible. Other central banks – with the notable exception of the Bank of Japan for reasons all of their own – have come out swinging with 75bps hikes. The BoE was among the first to tighten but it is yet to shrug off its patient, gradual approach and adopt a more forceful stance. There is clearly pain to come, better to get it out of the way quickly as the Fed is doing.
And new MPC voter Dhingra voted for a paltry 25bps hike. She thinks that “recent data outturns had suggested that activity was already weakening, and the risks of second-round effects from near-term inflation were falling”. The MPC summary explained the thinking further: “On the latter, higher-than-expected services price inflation could reflect energy price or base effects in some sectors that would not persist, and wage growth across services sectors had been negatively correlated with producer price inflation. in recent quarters. Set against that, there could be further pressures of demand on supply in the medium term, including from expected fiscal policy.” Hiking by 25bps does absolutely nothing; pointless.
Sterling on Kwasi time
Whatever Kwasi’s on, sterling doesn’t like it much. GBPUSD took a fresh 37-year low with a 1.11 handle this morning ahead of the Kwasi-Budget.
Given where sterling is going, how interest rates are going up and how we’re already in a recession it’s little surprise UK consumer confidence continues to crumble. GfK reports this morning that UK consumer confidence tumbled in September to a new low of -49, the worst since records began in 1974.
European stock markets traded just a little lower in early trading on Friday. The FTSE 100 dipped to the 7,100 area and the DAX fell under 12,450. Wall Street closed lower, led by tech/growth as yields emerged. The Nasdaq closed down almost 1.4 per cent, with the S&P 500 0.84 per cent lower for the session at 3,758 with a sharp downturn into the close highlighting the bulls are nowhere to be seen.
Tesla sunk 4 per cent as it was ordered to recall almost 1.1m vehicles in the US over windows in all four models closing too quickly….ARKK slumped 4 per cent to near its YTD low. Meanwhile Cathie Wood has handed over day-to-day management of two of her funds, the 3D Printing ETF and ARK Israel Innovative Technology ETF.
Stifel calling the bottom: “It is only if the Fed becomes incrementally more hawkish … that we see 10Y TIPS yield rising further, thus we believe the P/E is bottoming. We see lower inflation, the 10Y TIPS yield pulling back and 4,400 for S&P 500 by 4Q-2022/1Q-2023.”
I repeat that I think the Fed does become incrementally more hawkish. As Stan Druckenmiller pointed out, once inflation goes above 5%, it has never come back down without the Fed funds rate exceeding the CPI. This means the Fed going north of 5 per cent, not stopping at 4.5 per cent. And BofA/IMF data shows that once inflation goes above 5 per cent it takes an average of 10 years to drop below 2 per cent again.
NQ futs hold at critical support at 11,500 this morning – breach here calling for the retest of the June lows.
EU consumer confidence
And finally, data yesterday pointed to record low EU consumer confidence and the worst of the energy crisis is probably still to come…one thing to note is that this measure is always negative! Europeans just haven’t been that optimistic since the single currency appeared….
Neil Wilson is chief market analyst at Markets.com