Why lacklustre rates sentiment leaves investors in limbo

I wanted to start with a trip down memory lane. To 2013 to be precise, as this was when the then governor of the Bank of England (BoE) Mark Carney introduced something called “forward guidance”.

Forward guidance is designed to give the market some insight into what central banks are thinking on the direction of interest rates based on the data they have – it is a tool aimed at boosting market confidence. Other central banks in the developed world, the likes of the US Federal Reserve and the European Central Bank, also employ this strategy.

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Fast forward to 2024 and this unconventional tool has been found out – it is actually flawed! It was only in late September 2024 that current BOE governor Andrew Bailey announced that interest rates would fall gradually, despite inflation falling back to a more palatable level of just 2.2% in the UK. Yet barely a week later (October 3) Bailey revealed the BoE could cut rates more quickly if price rises remain under control. Bailey could easily change has mind again, so there is no clarity leaving many in limbo.

I have a colleague who, like millions of others in the UK, is set to remortgage in the next few months. The cost of living means they want the best deal – but Bailey’s comments on quicker rate cuts were deterring them from re-mortgaging in the fear they might miss out on a better deal. However, the news in yesterday’s Budget could easily see mortgage rates go up – it leaves lots of people in no man’s land.

The reality is central banks do not know what is happening and seem to be easily swayed by one data point. Take the US Federal Reserve as an example, a few weeks ago there were concerns about a hard landing (recession) in the US, amid growing fears about a weakening jobs market. The response was a cut of 0.5% to US interest rates – the first in four years. We then saw stronger jobs data in September, with employers adding 254,000 jobs and suddenly this worrying narrative has disappeared.

We are now living in a world where we are incredibly reactive to interest rates with “forward guidance” not appearing to be particularly helpful.

What impact does this have on investors?

This makes the world of investing challenging. Only recently I had a meeting with a bond manager who said the market was pricing in seven or eight rate cuts by the US Federal Reserve before we hit the bottom. The manager believes this is too many cuts and will look to take a different view from the market to make money. But investors are getting incredibly mixed signals which makes investing in areas like infrastructure, real estate or smaller companies a tough call.

We also have to consider geopolitical events in this conundrum. The crisis in the Middle East is first and foremost a horrible human tragedy, but it also affects the oil price, which would have a big impact on inflation. Events in the US next week are also likely to be inflationary as whoever wins the US election is likely to impose steeper tariffs on China.

It brings me back to my word of the year for investors – which is balance. We have seen tremendous resilience in markets throughout 2024 and being too cautious carries risk as well. Diversification is always important, but particularly so today.

The final thing I want to touch upon are two areas of the market which have been heavily maligned in recent years. The first is China, a market which has almost halved in value following a regulatory crackdown by the government in early 2021. The recent announcement of stimulus has seen a strong turnaround in performance and there is scope for further gains given valuations still look attractive. However, some would say the region is too volatile to invest in given the government can make an investment worthless overnight. It is a tough balancing act, what I would say is it is a welcome boost for both Asia and emerging markets to see a change in fortunes for the world’s second largest economy.

Then there is the doom and gloom around UK equities which, following Labour’s first Budget since 2010, shows no signs of lifting. Chancellor Rachel Reeves announced tax rises of £40bn to fund NHS and other public services. The good news is that it was not a total let down for savers with the extension of VCT and EIS schemes to 2035 and the £20,000 and £9,000 ISA and Junior ISA tax free investment allowance respectively staying intact. However, as the dust settles, there is a strong argument to suggest it poses more question than answers for UK PLC.

Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. The views expressed are those of the author and fund managers and do not constitute financial advice.