Welcome to Hoxton Wealth, the new home of Hoxton Capital
Markets Are Having to Rethink Interest Rates
Hoxton Blog • Markets Are Having to Rethink Interest Rates
Markets have had a more difficult week, with investors once again focused on inflation, interest rates and rising oil prices.
Oil moved above $90 a barrel as tensions between the United States and Iran increased. At the same time, government bond yields rose and technology shares came under pressure.
The S&P 500 and Nasdaq have both fallen this week, while European and Asian markets have also struggled. Gold, however, has risen strongly as investors look for assets that can provide some protection during periods of uncertainty.
The main issue for markets is becoming clearer:
Inflation has not gone away, and interest rates may need to stay higher for longer than investors had hoped.
That does not mean markets are heading for a major downturn. It simply means investors are having to adjust their expectations.
The Bond Market Is Sending a Message
One of the biggest developments this week has been in the bond market.
U.S. government bond yields have risen sharply, with the 30-year yield reaching its highest level since 2007.
This matters because government bond yields influence borrowing costs across the economy. Bond yield and price volatility is not uncommon and should not be cause for concern on its own.
Higher yields can mean more expensive mortgages and business loans. They can also make bonds more attractive compared with shares.
Higher bond yields can be particularly challenging for expensive technology companies. When investors expect interest rates to stay higher, they may be less willing to pay high prices today for profits they expect companies to make many years from now.
This helps explain some of the pressure we have seen in technology stocks this week.
The Fed Is Still Worried About Inflation
The Federal Reserve released the minutes from its July meeting this week.
The Fed kept interest rates unchanged at 3.5%–3.75%, although three policymakers wanted to increase rates.
The minutes showed that inflation remains a major concern.
Investors had previously been hoping that interest rates would start falling fairly soon. This week's update has made that less certain.
The important point is that the Fed will continue to respond to the economic data.
This is why trying to predict exactly when rates will rise or fall is so difficult.
For investors, it is more sensible to have a portfolio that can cope with different outcomes rather than relying on one particular interest-rate forecast.
Oil Has Become a Problem Again
Oil has been one of the biggest stories this week.
Brent crude moved above $90 a barrel as tensions involving the United States and Iran increased.
Higher oil prices matter because they affect much more than the cost of filling a car.
Businesses pay more to transport goods. Airlines pay more for fuel. Households have less money available for other spending.
Over time, some of these higher costs can feed into inflation.
This creates a difficult situation for central banks. They can use interest rates to slow the economy, but they cannot control the price of oil or resolve geopolitical tensions.
If oil prices remain high, inflation could stay higher for longer even if economic growth slows.
UK Inflation Remains a Concern
The UK also provided investors with something to think about this week.
UK inflation increased from 2.6% to 2.9% in July, largely due to higher household energy costs.
This was broadly in line with expectations, but it shows that inflation is still above the Bank of England's 2% target.
The Bank therefore faces the same difficult balancing act as the Federal Reserve.
It needs to control inflation without putting too much pressure on households and businesses.
For investors, one monthly inflation figure should not change a long-term investment strategy.
What matters more is the direction of inflation over several months.
Europe Is Starting to Look More Interesting
There has been some more positive news from Europe.
Business activity across the eurozone improved in August, with manufacturing showing its strongest performance in several years.
European markets have also remained relatively resilient despite the uncertainty affecting global markets.
For a long time, U.S. shares, particularly large technology companies, have been the main drivers of global markets.
That may not always remain the case.
European companies generally trade at lower valuations than their U.S. counterparts, while the European market is less concentrated in technology.
That does not mean European shares will definitely outperform the U.S.
It is simply another reminder of why investing across different countries and regions is important.
AI Is Still a Long-Term Opportunity
Artificial intelligence remains one of the biggest investment themes in the world.
Companies are spending huge amounts on chips, data centres, cloud computing and the infrastructure needed to support AI.
There is little doubt that AI is creating genuine economic opportunities.
But investors still need to think about the price they are paying.
A great company does not automatically make a great investment if its share price already assumes years of exceptional growth.
We have seen this before with the internet. The technology changed the world, but that did not mean every internet company was a good investment at any price.
The same lesson applies to AI today.
The opportunity is real, but valuation still matters.
Gold Has Benefited From the Uncertainty
Gold has also performed strongly this week.
Geopolitical uncertainty, a weaker U.S. dollar and concerns around markets and interest rates have all supported demand.
Gold can have a useful role in a diversified portfolio because it can behave differently from shares and bonds.
However, it does not produce an income and can be volatile.
It is therefore best viewed as one part of a wider investment strategy rather than a replacement for shares or bonds.
What Does This Mean for Investors?
There has been plenty to worry about this week:
- Higher oil prices
- Higher bond yields
- Persistent inflation
- Uncertainty over interest rates
- Pressure on technology shares
- Geopolitical tensions
It would be easy to react to each headline and make changes to your portfolio.
That is usually not the best approach.
A diversified portfolio is designed to deal with uncertainty.
You do not need to know whether oil will be $80 or $100 a barrel.
You do not need to know whether the Fed cuts rates in September.
You do not need to know whether U.S. or European shares will perform better next year.
You need a portfolio that can cope with different outcomes.
That may mean holding a mixture of shares, bonds, cash and other assets.
It may also mean reviewing your portfolio if one area has grown to become a much larger part of it than originally intended.
Having enough cash available for known short-term spending is also important. If you know you will need money soon, you should not have to rely on selling investments at exactly the right time.
Looking Ahead
Attention will now turn towards the Federal Reserve's Jackson Hole meeting, where investors will be looking for further clues about the future direction of U.S. interest rates.
There will also be more inflation and employment data before the Fed's September meeting.
Nvidia's upcoming results will provide another important test for the AI investment story, particularly after the recent weakness in technology shares.
There will always be another economic figure, central bank meeting or geopolitical event for markets to react to.
The goal of long-term investing is not to predict all of these events.
It is to build a portfolio that remains suitable even when things do not go according to plan.
Strong performance in one part of your portfolio can create concentration risk. Currency movements can change your exposure, while changes to your income or spending needs can mean your strategy is no longer suitable.
Those are good reasons to review a portfolio.
A difficult week in the markets is not.
For long-term investors, patience remains one of the most valuable tools available.
Nobody knows exactly where interest rates, oil prices or stock markets will be in six months.
You do not need to know.
You need a portfolio that reflects your goals, the amount of risk you are comfortable taking and how long you have to invest.
If recent market movements have made you question whether your current strategy is still right for you, this can be a sensible time to speak with your adviser and review your position.
You can also contact the Hoxton Wealth team at client.services@hoxtonwealth.com or via WhatsApp on +44 7384 100200 to discuss your wider financial plans and whether your current strategy remains appropriate.
The value of investments can fall as well as rise, and you may get back less than you invested. Past performance is not a reliable indicator of future results.
How Can We Help You?
If you would like to speak to one of our advisers, please get in touch today.
Contact Hoxton Wealth
We are available to discuss how Hoxton Wealth can help you achieve your financial goals. Together, we can help you build a brighter financial future.
