A grim anniversary

A good week for

• The dollar as it gained c. +1% versus sterling

A bad week for

• Equities broadly declined in all regions
• Gold declined c.1.7%

Russia-Ukraine war

Last week marked one year since Russia’s invasion of Ukraine. Despite the ensuing terrible loss of life and humanitarian crisis, the conflict appears to be in stalemate with no military or political resolution in the short to medium-term. The war’s impact on equity markets has been limited. For commodity markets, oil output from Russia has been more resilient than anticipated, irrespective of sanctions, and Russian oil has arguably managed to flow to world markets. WTI crude is now roughly priced at the same level as before the invasion, though it could spike - along with other commodities - as China reopens and demand increases. Russia’s economy has also proven more resilient than anticipated. The IMF forecasts real GDP growth of 0.3% in 2023 for Russia, higher than its -0.6% estimate for the UK. Ukraine’s central bank estimates its economy may have lost one third of its GDP output to the war in 2022.

US Federal Reserve

America’s Federal Reserve was unified in agreeing an interest rate rise at its last committee meeting and delivered a 0.25% hike. However, minutes revealed that two policymakers wanted a 0.5% rise. This discordance hints at the jeopardy of the Fed attempting a soft landing – raising rates whilst avoiding recession. St. Louis Fed President Bullard suggested peak rates would settle between 5.25% and 5.5% to ensure inflation is defeated. The US Fed’s last meeting took place before yet more positive economic data: non-farms reported 517,000 new jobs, much higher than consensus, and initial jobless claims fell last week to a weaker-than-expected 192,000. Both indicate a still tight labour market. Simultaneously, the US Fed is shrinking its c. $8.4 trillion balance sheet through quantitative tightening by about $95bn per month. If it attempts to cut rates later in 2023, the Fed would be deftly tightening (via QT) and loosening (via rates) monetary policy at the same time.

Inflation

Meanwhile, the US Fed’s preferred inflation gauge accelerated in January at its fastest pace since August 2022. The monthly Core PCE price index figure - which excludes often volatile food and energy prices - jumped by 0.6% and exceeded estimates of 0.4%, lifting the PCE figure for 2022 to 4.7%, surpassing expectations of 4.3%. Equities fell and government treasuries and the US dollar rose on the news, as investors considered that the Fed may need to keep rates higher for longer to combat inflation. Investors will keep a keen eye on data releases and Fed policymakers’ speeches for clues about the terminal rate and its timing.

UK Government surplus

UK government public finances registered a surprise surplus of £5.4bn in January. The Office for National Statistics reported that public sector net borrowing was significantly better than their £7.8bn deficit forecast. Self-assessed income tax receipts hit £21.9bn, the highest figure on record for the month this deadline falls due. Overall the picture is mixed, as higher tax receipts were partly offset by still substantial government spending. Interest payments on government debt also hit their highest level for January since records began in 1997, due largely to higher inflation. Nevertheless, strong tax revenues may afford Chancellor Jeremy Hunt’s March Budget some wiggle room. Public borrowing is still on track to be higher in 2022-23 than last year, but this January it was £30.6bn less than the Office for Budget Responsibility forecast last November. Hunt reacted cautiously, noting that overall debt levels are at their highest since the 1960s, and expressed the importance of reducing debt over the medium term.

PMI data

Purchasing Managers Index (PMI) data produced a number of surprises last week. The surveys, a timely source of on the ground insight into current and anticipated business conditions, pointed to economic expansion (with readings above 50) in the service sectors of Japan, France, Germany, the UK and US. UK services were a standout result jumping 4.6 points from 48.7 to 53.3, well ahead of consensus expectations of 49.2. Manufacturing data did not fare so well, remaining in contractionary territory at 49.2, albeit ahead of expectations of 47.5. All these countries shared a common theme: services expanding and manufacturing contracting. Germany suffered the weakest reading with its manufacturing sector coming in at 46.5. While positive data has provided welcome relief from previously weaker readings, a degree of caution is prudent as industrial action, particularly in the UK, has rendered economic data somewhat volatile.

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