Investment Comment
24th March 2023
Central Banks move front and centre
Following the forced takeover of Credit Suisse by UBS at the behest of the Swiss Authorities, policy makers in the US and UK raised interest rates this week. Increases in interest rates, in line with expectations, are aimed at reducing inflation.
In the UK, inflation was higher than expected due to a pick-up in food inflation, because of the adverse weather in Spain. It is unclear how higher interest rates will solve this problem. As the chart below shows, inflation impacts different households in varying ways. Through 2022, the price of essentials (food, heating etc) had the highest inflation rate. As a result the lowest income households have incurred inflation rates significantly above those with higher incomes according to the Resolution Foundation.
In the US, the increase in interest rates came on the back of the collapse of Silicon Valley Bank two weeks ago, and concerns over the security of deposits in smaller banks. The push-pull between financial stability and inflation receding more slowly than hoped could complicate monetary policy actions in coming months. Whilst the bond market is expecting interest rates to be cut in the second half of 2023, the Federal Reserve themselves expect rates to remain about where they are currently at the end of 2023. In both the UK and the US, wage inflation appears to be too high for comfort, even if wages are going up by less than inflation. Central Banks will be wanting to see inflation pressures ease and wage increases moderate before moving to cut interest rates.
With the crisis of confidence in some banks, the path of interest rates may not be inflation data dependent as in normal periods, but instead may become bank dependent. Smaller regional banks in the US account for over 50% of lending to the commercial sector. These banks are facing pressure in terms of deposit flight risk as the authorities indicated that they were not working on a system wide deposit insurance scheme. Lower deposits result in less credit creation.
The Senior Loan Officer Survey (SLO)highlights the credit conditions in the US banking system and lending conditions in the wider US economy. It measures the degree to which banks are changing covenants and borrowing terms. The recent SLO survey points to an increased level of tightening with a net balance of over 40% of banks tightening lending standards. Tighter lending conditions will prove a challenge for the US economy. Even at the end of 2022, banks were reporting lower demand for loans and were imposing tighter conditions for lending alongside increased interest rates. The April update of the survey may indicate how the current turbulence has impacted lending appetite and activity.
Credit standards have tightened which normally leads to slower loan growth
Source: Artorius, Bloomberg
Inflation is not equal: low income households have seen higher rates of inflation than other households (estimates of December 2022)
Source: Artorius, Resolution Foundation
In coming months, attention will be paid to signs of US banking distress as the commercial property sector is due to refinance a high level of debt that was previously arranged when interest rates were lower, and post-Covid demand and valuations haven’t recovered in the sector.
China
In Beijing, the 14th National People’s Congress (NPC) concluded last week. The messaging from the government was upbeat. “From a new starting point, we will create a market-oriented, legalised and internationalised business environment, treat enterprises of all types of ownership equally, protect the property rights of enterprises and the rights and interests of entrepreneurs,” Premier Li Qiang said in Mandarin in his speech at the NPC. This strikes us as being different in tone to the last few years when the authorities were perceived as clamping down in some private sector activity.
There was a reiteration that the relatively subdued headline economic growth targets are consistent with the policy of relaxing property sector restraints but managed in order to stave off ‘disorderly expansion'. The importance of China in commodity demand and therefore prices, may mean that a more sustainable recovery, i.e. one not built on debt, will limit the risk of a sharp rise in commodity prices even as China reopens post their Covid restrictions. This in turn may be good news for western economies and policy makers worried about a return to inflation in 2024.
Gerard Lane
Chief Investment Officer
All expressions of opinion reflect the judgment of Artorius at 24th March 2023 and are subject to change, without notice. Information has been obtained from sources considered reliable, but we do not guarantee that the foregoing report is accurate or complete; we do not accept any liability for any errors or omissions, nor for any actions taken based on its content. The value of an investment and the income from it could go down as well as up. The return at the end of the investment period is not guaranteed and you may get back less than you originally invested. Past performance is not a reliable indicator of future results. Nothing in this document is intended to be, or should be construed as, regulated advice. Artorius provides this document in good faith and for information purposes only. Reliance should not be placed on the information contained within this document when taking individual investments or strategic decisions. Artorius Wealth Management Limited is authorised and regulated by the Financial Conduct Authority. Artorius is a trading name of Artorius Wealth Management Limited.
FP20230324001 EXP 05/05/2023