Given all they've endured in 2023, it will be little surprise if investors’ thoughts turn towards the new calendar year ahead of time. But this is also a good moment to look back as well as forward, particularly as this week is near enough the anniversary of one or two big shifts in investor thinking. The first, on 9 November 2020, was the so-called ‘vaccine Monday’, when news of an effective Covid-19 vaccine from Pfizer sparked a rally in equities on hopes of an end to the coronavirus pandemic. The second is still a few weeks away, but on 16 December it will be two years since the Bank of England (BoE) hiked rates to 0.25 per cent, the first of what turned out to be 14 consecutive increases.
There have been a few subplots since then: the surge in prices seen in 2021, the sell-off of 2022, and the mixed fortunes for most shares outside the 'magnificent seven' this year. Still, the continued focus on all things US means it will surprise some to learn that the UK's FTSE 100 has outperformed the S&P 500 and the Nasdaq Composite in the three years since the Pfizer news, and since that first BoE hike in 2021. This is the case both in local currency terms and in sterling – the latter denominator factoring in the relative weakness in the pound.
Many will point to the more serious struggles suffered by smaller companies. Here too, the price action isn’t quite so damning. The FTSE Small Cap index is slightly ahead of its US equivalent, the Russell 2000, over both time periods and in both local and sterling currency denominations. FTSE 250 performance has been poor, but it’s not so far behind the MSCI World mid-sized equivalent.
None of this is to hide the real problems facing the UK market. The performance of Aim indices over these timeframes has been as dismal as received wisdom would have it. More to the point, UK shares collectively still trade on a big discount to both global peers, and to their own medium-term averages. Returns made over the above time horizons are respectable, but the longer-term underperformance is clear.
Nor is all rosy among UK large caps: the ‘dinosaurs’ label is reductive and inaccurate, but there are still high-profile stragglers. Some have been in a state for some time. For others, new problems are emerging. Diageo’s profit warning last Friday, for example, caused by overstocking in its Latin American arm, raises big questions about management’s visibility over its global operations, among other things.
But many of the issues for UK plc are structural rather than company specific. Next week’s Autumn Statement is due to mark the beginning of the government’s attempt to do what it can to help.
On the demand side, pre-election giveaways of some kind are inevitable, in March's Budget if not this month, yet the overall picture boils down to a nation that requires greater investment. For businesses, there may be some encouragement on this front, if the ‘full expensing’ introduced in the Spring Budget – allowing companies to claim back certain capital expenditures – is extended beyond its current three-year limit and made permanent.
Either way, businesses will now anticipate better times ahead, if only because the rate-hiking cycle is drawing to a close. An 8 per cent rise for the FTSE 250 so far this month, driven by better inflation data on both sides of the Atlantic, is very much in keeping with this mindset.
Investors have been waiting most of this year for a sign of rates peaking. It may prove a similar story next year, albeit with a goal of rate cuts rather than mere peaks. The ‘higher-for-longer’ mantra can only survive so much contact with reality, and if economic circumstances do worsen, those cuts could appear on the agenda.
Anticipating the precise point so far in advance is a fool’s errand, but what we do know, according to Quilter, is that the market reaction “is strongest in the early part of a rate-cutting cycle”. And, as any number of studies show, missing out on just a few big days can have a serious effect on long-term returns. Better to be too early than too late.
This is not to suggest that rates will plummet when the cutting begins. Goldman Sachs, whose 2024 outlook is titled, hostage-to-fortune style, The Hard Part is Over, thinks rates will ultimately remain above the long-run sustainable levels that central banks currently project. In the UK, this means a slow decline to 3 per cent over the next three years. Would this constitute a form of ‘higher for longer’? Debatable, but if the next big market turn does come in 2024, investors will want to be ready for it.
