Market Update - September 2023



Market Update

Equity market volatility continued in September as the S&P500 fell -4.9% in USD terms and US interest rates increased to levels not seen in over a decade.

US inflation was slightly higher than expected, rising at an annualised pace of 3.7%. This increased concerns that inflation is starting to become difficult to budge, and that the US Federal Reserve (Fed) will need to maintain higher rates for longer. The +9.8% increase in oil prices added to inflationary worries and pressure on consumer spending.

The Fed held rates unchanged, as broadly expected. However, the tone of the statement and press conference was interpreted as hawkish. Committee members did not rule out further tightening and their forecast for the Fed funds rate at the end of 2024 was increased in line with the higher for longer rhetoric. At the time of writing, the market was pricing a 32% chance of an interest rate hike at the November meeting.

The European Central Bank (ECB) increased rates +0.25%. The decision was not unanimous and appeared to be a precautionary tightening due to concerns over sticky inflation. The ECB revised down their GDP and inflation forecasts and noted that this level of rates will be sufficient to weigh on inflation, essentially saying they are now done hiking. The market expects the ECB to leave rates unchanged for the remainder of the year.

The Reserve Bank of Australia (RBA) left rates unchanged as expected. The board debated between keeping rates steady or hiking +0.25% but concluded that recent data had been consistent with inflation returning to target. The RBA did acknowledge that further tightening may be required should inflation prove more persistent than expected. After the meeting, economic data was generally stronger. The market does not expect a hike in October but does expect a further +0.25% hike by March next year.

In New Zealand, GDP was stronger than expected, with 2Q growing at +0.9% vs +0.4% expected. This will be concerning for RBNZ, who are worried that inflation is becoming sticky. However, on closer inspection, it was apparent that many of the factors that drove GDP higher will either not be repeated or will be reversed in the coming months.

As a result of stronger GDP and the move in global rates, NZ 2-year rates ended the month +0.29% higher and the 5-year rate finished up +0.41%. Despite the general risk-off tone over the month and general USD strength, the NZD managed to gain +0.5% on the USD.

The markets appear to have grasped onto what central bankers have been warning for some time – higher rates for longer. This sentiment is unlikely to shift until we get a clear sign that inflation will return to the target range.

Market Update - October 2023



Market Update

Equity market weakness persisted in October as the S&P500 fell -2.2% in USD terms and US interest rates increased to levels not seen since 2007. Geopolitical tensions were at the forefront of investors’ minds as the conflict in the Middle East contributed to volatility in oil prices, long term interest rates and equity markets.

Data from the US indicated the economy remains resilient, prompting members of the Federal Reserve to reaffirm that interest rates would likely stay higher for longer. US inflation was also higher than expected at 3.7%, raising concerns that inflation could prove to be sticky.

Additionally, US interest rates were pushed higher because US government debt continued to grow to historically high levels, and investors now demand a higher interest rate on any new debt to compensate for the risk. Unfortunately, these higher interest rates also raise the cost of debt for other borrowers, and drive stock prices down to make their returns more competitive.

In Europe, the European Central Bank (ECB) left rates unchanged for the first time since they started hiking 11 months ago. Investors expected the European tightening cycle to end soon after weak economic data suggested higher interest rates were starting to bite. The ECB believe they have done enough to bring inflation back to acceptable levels, but interest rates may need to stay at these levels for longer to make sure inflation remains suppressed.

The Reserve Bank of Australia (RBA) left rates unchanged. CPI inflation was unexpectedly higher at 5.4%, and data over the month indicated the economy remains overextended. Interest rates in Australia subsequently rose

faster than NZ and US rates and the 5-year rate in Australia is now up by 0.45%. At the time of writing, investors estimated a 68% chance that the RBA will need to hike interest rates further at their November meeting to keep inflation down.

In New Zealand, data suggests that the economy is starting to slow. CPI inflation fell from 6% to 5.6% - below the 5.9% expected by the market. Employment fell in the 3rd quarter, pushing the unemployment rate up to 3.9%. These outcomes are an expected product of the RBNZ’s monetary tightening and have lowered the probability of another hike occurring from here. In fact, market data shows that investors now expect the RBNZ to leave rates unchanged for the next 10 months before cutting.

This weak domestic economic data led to lower interest rates for shorter term maturities, with the 2-year rate decreasing by 0.12%, whilst the 5-year rate (which is more affected by global rates) increased by a relatively small 0.1%. The combination of strong US data, higher US rates, geopolitical risks and weak data from NZ drove the NZD down 2.9% to levels not seen since November last year.

Investors are keenly monitoring new economic data to assess how inflation and growth will develop from here, particularly with the view that interest rates could remain higher for longer. Resilient data from the US suggests that a soft landing is still possible.