The Monthly - November 2017

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14/11/2017
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Well; what a month it has been- notable of course for the first domestic interest rate rise for nigh on a decade meaning that the UK base rate is now a dizzying 0.5%.

It may seem somewhat churlish under the circumstances to point out that this merely returns the interest rate to where it was before the Brexit referendum in late June last year but I guess that captures the current ambiguity reasonably well - is this the start of the process of interest rate normalisation or merely the reversal of a fairly inconsequential knee-jerk decision made in haste? Time, of course, will tell but in the meantime I do have an opinion:

Generally speaking Central Banks the world over (notable exception being the) are trying to weaken their currency to a) boost exports and b) boost inflation. The benefit of the former is economic stimulation while the benefit of the latter is the impact of inflation on debt. As such the decision of the Monetary Policy Committee to raise rates now is interesting- the pound has weakened since Article 50 was invoked which has had the impact of higher domestic inflation as imported goods cost more in sterling terms. Indeed the latest inflation figures indicate a reading of 3% which is significantly higher than the 2% target and perilously close to the Governor of the Bank of England having to write an explanatory letter to the Chancellor of the Exchequer.

Raising rates now therefore takes advantage of a window in which inflation is high and sterling weak without doing too much to alter either of those broadly beneficial factors in economic terms. Added to which if the BoE doesn’t start to restore interest rates soon then there will be no normal policy measures available if the country were to experience another recession and hence an extraordinary response would be required. That said we are talking about such a tiny incremental hike that it would add something like £20 per month to an average mortgage if the holder had ignored the writing on the wall and remained on an SVR. What is notable, however, and resulted in sterling weakening in spite of the rate hike, was that Mark Carney’s comments following the announcement indicated there is little appetite to push this theme too far and it sounds as though concerted interest rate normalisation remains some way away.

There was a negligible impact on domestic equity markets- the FTSE 100 started October at 7,440 and closed out some 60 points higher at roughly 7,500 having briefly ascended as high as 7,560 mid-month. This would seem to correspond with a general sense of market participants waiting to see what would happen to rates (recall if you will the “taper tantrum” in the US some years back). When the announcement came the key driver seemed to be the MPC outlook which indicates that future rate rises will be far from aggressive and sought to talk down the prospect of a rapid normalisation.

So where does this leave us as investors? We are getting an increasing volume of queries regarding UK equity market levels and whether this is an appropriate time to invest. On balance we think that the answer remains affirmative- long-time readers will be aware that as a house we are moderately underweight our UK equity allocation relative to what we would consider neutral. Added to this we have recently been seeking to reduce risk within our UK equity allocation by increasing diversification where appropriate through a greater level of index awareness expressed in position sizes within the asset class. This has entailed increasing our level of investment in some of the FTSE 100 mega-caps and dialling down the amount allocated to smaller cap positions in portfolios; our transactional activity has reflected this over the last month and is likely to continue to do so going forward. Finally we aim to use market timing to our advantage when investing new money and hence it can take around 3 months for a portfolio to go from being 100% cash to being fully invested and, while front loaded to a degree, the current implementation of this approach reveals a more cautious outlook than has been the case for some considerable time. Given the current degree of political and economic uncertainty this seems an appropriate course of action.