Major developed market central banks are making policy adjustments, as they navigate a shifting growth and inflation backdrop. To explore how these economic shifts are impacting short-term investment strategies, we need to delve into the latest policy developments from the Fed, ECB and BoE.
Rate cuts on the horizon
In the US, the latest jobs report provided mixed signals about the state of the labour market. While the print came in below expectations, it wasn't at a level that points towards a recession. US growth is expected to slow to around 2% annualised. The market is pricing in more than 100 basis points of rate cuts over the next three Fed meetings, but this may be too aggressive. We expect the Fed to start its rate-cutting cycle in September, with three 25 basis-point cuts anticipated by the end of the year.
In the eurozone, the ECB has already begun adjusting monetary policy in response to a disinflation trend and increased downside risks to growth. Headline inflation has fallen to just above 2%, while core inflation is at 2.8%. Meanwhile 2024 growth forecasts have been cut to 0.9%. The market has been pricing in around two and a half rate cuts over the next three ECB meetings, but rates may not fall as much as is priced in. We think the ECB is likely to adopt a more measured approach, potentially cutting rates every other meeting unless there are significant downside surprises to inflation or growth.
The UK economy, by contrast, has been surprisingly resilient, with UK business surveys now comparing favourably to both the US and the eurozone. With the labour market still appearing tight, services inflation and wage growth remain a focus for the BoE, which is likely to maintain a restrictive policy stance for a while longer. As a result, the UK's rate cutting cycle is expected to be less pronounced than in Europe or the US, with another rate cut expected in November, followed by quarterly cuts next year.
Credit fundamentals remain supportive
In the current economic environment, we believe banks continue to have strong fundamentals, supported by strong regulatory capital ratios and healthy profits. Liquidity coverage ratios are also healthy and the outlook for the sector looks stable.
Our outlook for investment-grade non-financial credit is also positive. Corporate balance sheets are looking strong, while the technical backdrop is supportive, thanks to strong demand for quality bonds. Against this backdrop, we believe credit spreads could tighten further.
Adding duration selectively as opportunities arise
With US rates markets driving sympathy movements in Europe and the UK, and the money market yield curve becoming more inverted, we have slightly shortened the duration of our liquidity strategies recently to take advantage of higher yields. The focus though is on looking to add duration selectively when opportunities arise.
In our standard strategies, we have the ability to extend duration further compared to our short-term liquidity strategies. With the ECB and BoE not expected to cut rates aggressively, we are maintaining a neutral duration position, but we are looking for opportunities to add duration on any market backups.
Conclusion
In summary, while recession is not our base case scenario for any major developed market economy, interest rate cuts are on the horizon. However, rates are not expected to return to the near zero levels that persisted after the global financial crisis, which is good news for cash investors.
In this environment, our liquidity strategies are experiencing strong growth. We believe our short-term and standard liquidity strategies, and our ultra-short duration strategies, are well positioned to actively navigate current market conditions.
Source for all data is Bloomberg, ECB, J.P. Morgan Asset Management, as at 6 September 2024.
