BOND MARKETS RAISE CHANCE OF DISAPPOINTMENT AS THEY PRICE FOR AGGRESSIVE RATE CUTS IN 2024

BOND MARKETS RAISE CHANCE OF DISAPPOINTMENT AS THEY PRICE FOR AGGRESSIVE RATE CUTS IN 2024

This week we saw more enthusiasm for government bonds as investors doubled down on the view that central banks will cut rates in 2024 and will cut them significantly. European government bonds led the rally following comments from several ECB members that appeared to confirm the view that the bank has finished hiking following the rapid slowdown in inflation. This was supported by lacklustre European economic growth. However, mixed signals on the strength of the US jobs market meant US government bonds gave back most of their gains.

The shift in sentiment has been dramatic. Only a few weeks ago the ECB was expected to leave rates elevated for longer than the Bank of England and Federal Reserve but markets are now pricing in up to six cuts in 2024 with rates brought down by 1.5 percentage points. Many bond investors will be cheered by the gains but the rapid change in outlook increases the chance that recent enthusiasm is overdone. In the short term markets are likely to be driven by each fresh data release or speech by a central banker.

BONDS: EUROPE TAKES THE LEAD AS GOVERNMENT BOND RALLY CONTINUES

The global rally in government bonds has continued. European government bonds have risen the most, driving down yields significantly, as members of the European Central Bank appeared to confirm it has reached the end of its hiking cycle. The rapid decline in European inflation prompted the governor of the Bank of France to raise the possibility of a rate cut in 2024 if inflation continues to moderate. Markets are currently positioned for the ECB to cut rates by 1.5% next year and this pushed German, French, Spanish and Italian government 10-year bond yields down by 0.25% or more as weak economic data showed European GDP fell this quarter and unemployment ticked up.

US Treasury yields initially fell following signs the US jobs market is cooling. The number of new jobs fell by more than 600,000 in November, and the number of people quitting their jobs also dropped, although stronger data later in the week reversed these gains. UK gilts rallied as the yield on 10-year bonds fell below 4% for the first time since May.

INDIA: OUTLOOK FOR STRONG GROWTH HELPS DRIVE EQUITIES HIGHER

The strong run for the Indian stock market has continued as it reached successive record high valuations. The large cap Sensex index managed to hit record highs over seven successive days as the market capitalisation of its constituents rose above $4tn for the first time. A buoyant economy has helped domestic investor sentiment as domestic inflows to the stock market outweigh overseas investment.

Global GDP growth in 2024 is expected to be fuelled by Asian and Pacific region economies but India is taking over as the driver of growth. India’s GDP is expected to grow by 6.3% in 2023 and by the same amount in 2024, compared with 5% and 4.2% for China. This strong and consistent growth caused S&P Global Ratings to predict that India will overtake Germany and Japan to become the world’s third largest economy by 2030. India is benefiting from significant foreign investment as western companies shift production away from China due to higher costs and the risk of political interference.

EQUITIES: AIRLINES BENEFIT FROM SUSTAINED DEMAND FOR TRAVEL

Airlines report record passenger numbers in 2023 as the post-Covid demand for travel has held up to the rising cost of living. The International Air Transport Association says global airline profits are expected to top $23bn this year, more than double its forecast in June, following a bumper summer in the US and Europe. Wizz Air reported passenger numbers in November were 29% up on last year and Ryanair recorded a 4% increase in passengers last month. Travel group TUI said full year revenues are now higher than before the Covid pandemic as it reported profits more than doubled.

Airline and travel stocks have outperformed the UK market this year but they have lagged the broad index over the last three years as Covid travel restrictions severely affected share prices in 2020 and 2021. Investors remain wary of the sector despite record profits from airlines this year. Many airlines remain positive about the outlook for 2024 as they expect demand to hold up and inflationary pressures continue to ease.