UK ECONOMY RETURNS TO GROWTH AS BANK OF ENGLAND EDGE NEARER RATE CUTS

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Data Sourced from FE Analytics, and Bloomberg Finance LP

UK ECONOMY RETURNS TO GROWTH AS BANK OF ENGLAND EDGE NEARER RATE CUTS

This week brought some good news for the UK. Surprisingly strong growth in the first quarter of the year has pulled the UK out of recession. This needs to be kept in context as the economy is around 0.2% bigger than this time last year, but at least this is going in the right direction. This will no doubt be welcomed by Rishi Sunak who can chalk off another of his five pledges, although progress on the remaining three remains elusive. The only sting in the tail is that growth is coming from the services sector and brings the potential for upward pressure on inflation.

The Bank of England’s interest rate decision was more relevant for markets. In fact, it was the messaging that accompanied the decision that was important. Governor Andrew Bailey tried to avoid committing to a specific timetable for cuts, while giving the bank room to manoeuvre if the pic- ture changes. But the BoE’s tone was much more accommodating than it has been, and the chance of UK and European interest rates diverging from the US has increased. This went down well with bond investors and helped the generally positive mood in equity markets.

UK: BOE LEAVES RATES ON HOLD AS INVESTORS LOOK FOR SIGNS OF A CUT

The Bank of England left interest rates unchanged at 5.25%. This was widely expected, however, the bank opened the way for an earlier rate cut and potential
divergence from the path of US interest rates. Governor Andrew Bailey said if inflation keeps falling it is likely rates will need to come down soon. While warning that a
June cut is not a done deal, Bailey said the decision on whether to cut next month had not been ruled out. The announcement helped UK government bonds rise as yields fell.

The European Central Bank is also seen as more likely to cut rates next month. ECB chief economist Philip Lane said he is increasingly confident that inflation is returning to target in a timely manner. The Swedish central bank has followed the Swiss National Bank by cutting rates. It announced a rate cut of 0.25% this week as inflation continues to cool and economic activity remains weak. Meanwhile, a weaker jobs report in the US last week lifted some of the pressure from the Federal Reserve helping to lift US government bonds.

PROPERTY: CONSTRUCTION RISES BUT HIGH RATES COOL BUYERS’ INTEREST

UK construction activity picked up strongly following a significant downturn in the last 18 months. Higher mortgage borrowing costs have significantly reduced
demand from potential home buyers since Bank of England base rate began rising in late 2022. The Construction Purchasing Managers’ Index increased from 50.2 in March to 53 in April. Any figures over 50 indicates expansion in the sector. The Bank of England also reported a noticeable increase in the number of new mortgages taken out in March.

However, the immediate outlook for UK house prices is less positive. Average house prices in the UK were effectively unchanged last month as Halifax said recent increases in mortgage borrowing costs have cooled demand. The Royal Institution of Chartered Surveyors also said buyer interest has cooled in the last few weeks due to higher mortgage rates. In addition, the RICS said a rush of new sales instructions have increased the number of homes for sale to their highest in three years and this is likely to keep house prices down in the short term.

TECH: INVESTORS CALL TIME ON ARM’S AI RALLY

Shares in microchip designer Arm fell sharply as it lowered its sales forecast. The UK-based company reported a 47% increase in quarterly revenue to push full year
earnings above £3bn as it benefitted from the increased demand for AI-capable microchips. However, its forecast of $3.8bn to $4.1bn for next year caused its shares to fall around 10% as this was slightly below analysts’ projections. The drop shows the ambitious earnings growth currently expected from the big tech companies. Despite this week’s decline, shares remain far above the IPO price from September last year.

Meanwhile, Apple has addressed some of the concerns about its sales outlook. Last week, its earnings update reported a small decline in quarterly revenue and a decline in market share in China. However, this week it reported higher sales in China in March and also unveiled a new and much more powerful iPad which is designed to run AI-enabled software. This helped push Apple’s shares to a small gain for the year so far.

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