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Hot inflation hits rate-cut hopes

Last Week in the City provides a round-up of market movements and the global investing outlook. This covers the week to 12 April 2024.

| 11 min read

Stubborn inflation data and hawkish rhetoric from central bank officials mean that markets are now pricing in fewer interest rate cuts by the Federal Reserve and Bank of England in 2024. US inflation data once again came in higher than expected and markets now expect the average figure of 1.75 cuts of 25-basis-point (bp) each by the end of December, down from three. Bank of England policymaker Megan Greene said cuts “should still be a way off” and markets have now priced in two reductions instead of the prior three.

Equity markets were unsettled by the prospect of fewer rate cuts earlier in the week, but the FTSE 100 rallied on Friday after it was revealed that the UK economy grew in February, boosting hopes that the shallow recession seen in the latter part of 2023 may already be over.

The US first-quarter earnings season will kick off when US markets open, with earnings reports from banking behemoths JP Morgan Chase, Wells Fargo and Citigroup.

Over the week, the blue-chip FTSE 100 index was up 1.4% by mid-session on Friday, with the more UK-focused FTSE 250 trading 1.0% ahead.

Economics

First, the good news on the British economy.

Gross domestic product (GDP) grew slightly in February increasing hopes the UK may have exited the recession seen at the end of 2023. The economy grew by 0.1% month-on-month, boosted by production and manufacturing in areas such as the car industry. Although positive, it must be noted that this is an early reading and subject to revisions.

March saw the strongest growth rate in UK retail sales since August 2023, with sales rising at a faster rate than inflation for the first time in more than two years. The unusually early Easter holidays gave the UK retail sector a big boost in March, according to the British Retail Consortium-KPMG Retail Sales Monitor. Total retail sales rose by 3.5% year-on-year last month, accelerating from the 1.1% annual rise registered in February, above the three-month average growth rate of 2.1% and the 12-month average growth of 2.9%.

Of greater market significance, however, was the fact markets revised its implied opinion of interest-rate cuts this year after some not so central-bank friendly data. In March, US consumer prices surged more than expected due to increased costs for gasoline and rental housing. The annual rise in the US consumer price index reached 3.5%, surpassing economists’ consensus estimate of 3.4% and marking the third consecutive month of elevated consumer price readings. Despite this, Federal Reserve Chair Jerome Powell has consistently emphasized that the US central bank is not in a hurry to initiate any rate cuts. Gold prices slipped from record highs as the dollar and Treasury yields firmed after the stronger-than-expected inflation print softened expectations of an early US rate cut.

The hot inflation data followed strong US jobs figures announced last Friday, which are also a headache for the Federal Reserve’s (Fed) doves. Employers in the US added more than 300,000 jobs last month – the biggest gain in almost a year – as the boom in the world's largest economy continued. The jobless rate fell to 3.8%, as most sectors, including health care, construction and the government added roles.

There was also another hawkish speech from a Fed official. US Atlanta Fed President Raphael Bostic reiterated his expectation for just one interest-rate cut this year, but added he’s open to changing his view to later or additional rate reductions should the economic picture change. However, he also said signs of weakness in the jobs market would prompt him to consider earlier and more cuts than he is currently expecting. The Fed’s Neel Kashkari said the base case remains that inflation will continue to fall. He added that while the jobs market in the US is no longer “red hot,” it’s still tight.” Nevertheless, James Bullard, the former President of the St Louis Fed, told Bloomberg that three cuts this year by the central bank remained the “base case.” Markets continue to expect three rate cuts by the Fed in the second half of 2024.

Ratings agency Fitch cut its outlook on China's sovereign credit rating to negative.

About 7.4 million UK adults are still struggling to pay bills due to the high cost of living, according to the Financial Conduct Authority (FCA). The number has fallen from last year, but many households still feel "heavily burdened". The FCA survey suggested one in nine adults (5.5 million) had missed paying a bill or credit payment in the six months to January 2024. One in nine people also had no disposable income, the FCA said.

Ratings agency Fitch cut its outlook on China's sovereign credit rating to negative, citing risks to public finances as the economy faces increasing uncertainty. The outlook downgrade follows a similar move by Moody's in December and comes as Beijing ratchets up efforts to spur a feeble post-Covid recovery with fiscal and monetary stimulus.

Indeed, China’s property-sector crisis continued to make headlines after major real-estate developer Shimao Group was hit with a winding-up petition. State-owned China Construction Bank filed the petition in Hong Kong over Shimao's failure to repay loans worth about $201.8m. It is rare for a Chinese bank to take such legal action against one of the country's developers, with prior, similar cases against other property companies launched by foreign-based creditors.

The world population keeps growing and is expected to reach nine billion by 2037. This will have a significant impact on markets and economies. Population changes and markets.

Geopolitics

Oil prices retreated from a five-month high after Israel said it would remove some troops from southern Gaza, with the forces recuperating and preparing for future operations, including an offensive on Rafah.

Chinese President Xi Jinping told former Taiwan President Ma Ying-jeou that outside inference could not stop the "family reunion" between the two sides of the Taiwan Strait, and that there are no issues that cannot be discussed.

US Treasury Secretary Janet Yellen ended a four-day trip to China by warning Beijing against any moves to help Russia’s military machine. “I stressed that companies, including those in the PRC, must not provide material support for Russia’s war, and that they will face significant consequences if they do,” Ms Yellen said. On China, Russia and Gaza, the US navigates major geopolitical tensions.

US President Joe Biden has been urged to ban imports of Chinese-made electric cars to the US.

The chair of the Senate Banking Committee, Senator Sherrod Brown, wrote "Chinese electric vehicles are an existential threat to the American auto industry". Others have called for steep tariffs to keep Chinese electric vehicles (EV) out of the country, but not an outright ban.

There will be different effects on markets depending on who wins the US presidential election on 5 November. However, whether Joe Biden or Donald Trump will emerge victorious remains unclear.

Company news

Tesco released a strong set of annual results, with profits in line with the raised guidance from January this year following solid trading over Christmas. It revealed a return to volume growth and momentum in its market share, which currently stands at 27.3% of the UK market, according to market researcher Kantar. Management also gave an upbeat assessment of prospects in the coming year. After purchasing £750m of shares back in the previous year, the retailer plans to repurchase £1bn worth of shares over the next twelve months, including £250m funded by the special dividend paid by Tesco Bank in August 2023. The sale of its banking services division to Barclays is expected to be completed in the second half of 2024. It will retain profitable elements of Tesco Bank, including its insurance, ATM, travel money, and gift card operations, with management expecting to generate £80m to £100m in adjusted operating profit from the remainder of this business.

OpenAI and Meta Platforms are on the brink of releasing new artificial intelligence (AI) models that they say will be capable of reasoning and planning, the Financial Times reported. Meta said it will begin rolling out Llama 3 in the coming weeks, while Microsoft-backed OpenAI indicated that its next model, expected to be called GPT-5, was coming “soon”.

There were other developments in the AI industry too. Big tech's dominance of the rapidly developing AI market is a matter of "real concern", the competition regulator warned. The Competition and Markets Authority (CMA) is looking into the new breed of powerful AI tools - foundation models. They include text and image generators, such as ChatGPT. Elon Musk also said the capability of new artificial intelligence models will surpass human intelligence by the end of next year, so long as the supply of electricity and hardware can keep up.

Intel is rolling out a new version of its AI chip, aiming to challenge Nvidia in one of the fastest-growing parts of the semiconductor industry. The updated processor, Gaudi 3, will be available in the third quarter. The chip is designed to boost performance in two key areas: helping train AI systems and running the finished software.

Microsoft will invest $2.9bn over the next two years to boost its hyperscale cloud computing and artificial intelligence infrastructure in Japan, marking its biggest investment in the country. The announcement was made in Washington after Microsoft President Brad Smith met with Prime Minister Fumio Kishida, who is in the US for the first official visit by a Japanese leader in nine years.

Boeing is facing new pressure after a whistleblower reported safety concerns over the manufacturing of some of its planes to US regulators. Engineer Sam Salehpour accused Boeing of taking shortcuts in the construction of its 787 and 777 jets. Boeing said the claims were “inaccurate” and it was confident its aircraft were safe. The company is already facing a criminal investigation and other legal troubles, after an unused exit door broke off one of its smaller 737 Max 9 planes operated by Alaska Air shortly after take-off in January.

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Hot inflation hits rate-cut hopes

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