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Between the Lines: August 2023

The return of the Magnificent Seven

This year’s stock market rally has been dominated by a few big tech companies, coined the ‘Magnificent Seven’. In the first seven months of the year, the MSCI USA Growth Index returned 29.1% while the broader MSCI USA Index returned 13.3%. The Magnificent Seven are all growth stocks – companies that derive their value from the rate at which they’re expected to grow their earnings in the future.

What does this mean for investors?

The performance of the US stock market this year has been largely driven by AI-related investor excitement and helped by central bank support in the wake of the mini-banking crisis. This has pushed up the valuations of tech names and heightened index concentration concerns for US equities – the Magnificent Seven (Amazon, Apple, Alphabet, Meta, Microsoft, Nvidia, and Tesla) accounted for 25% of the MSCI USA index by mid-July.

Profitability forecasts for the Magnificent Seven vary, but some have very high valuations to meet.

Key takeaways

  • After surging in 2023, the index domination of US technology stocks is close to the highest it’s ever been.
  • This has heightened index concentration concerns – exposure to US equities is dominated by a small number of companies.
  • Anticipated dispersions in both valuations and earnings signal an improving environment for active investment.

Diverging trends apparent in global inflation data

Consumer Price Index (CPI) data – closely watched due to its interest-rate implications – has signalled headline inflation continuing to fall on a year-on-year basis. However, core inflation, which excludes volatile contributors such as energy and food, remains stubbornly high.

What does this mean for investors?

In the US, headline annual inflation was 3% year-on-year to the end of June, the lowest level since March 2021, as falling oil prices fed through into the wider economy. However, while US core inflation came in higher at 4.8%, as factors such as wages and housing costs proved particularly stubborn, evidence that it’s easing supported the prospect of a ‘soft landing’. This is where inflation declines back to target levels and unemployment ticks up just enough to calm central bankers, but not enough to damage broad consumer confidence. Equity markets reacted positively, pricing in interest-rate cuts for next year.

Meanwhile, UK data signalled that headline inflation had fallen to a 15-month low of 7.9% in June – a larger than expected drop – with core inflation down to 6.9%. This positive news was also seized upon; the UK market cut its forecasts for future interest rates. Due to the energy price cap, which adjusts quarterly, there has been a lag for falling energy prices feeding through to consumers, but the effects are at last being felt.

The eurozone also recorded falling headline inflation, with annual CPI confirmed at 5.3% in July. However, core inflation was unchanged from June at 5.5%. This supported expectations for further rate rises in the coming months.

Key takeaways

  • Stubborn core inflation in the UK and eurozone suggests rate cuts in those markets may be some time away.
  • In contrast, US data suggests the Federal Reserve may be nearing the end of its rate-rising cycle.
  • Falling energy prices are slowly feeding through to headline inflation, but the outlook for rest of 2023 is less positive.
Shutterstock/Deemerwha studio

Mortgage rates ease as UK property market cools

Two-year fixed-rate mortgages began to come down in July as major lenders announced new deals at marginally lower rates, with recent inflation data suggesting the Bank of England may be nearing the end of its rate-rising cycle.

What does this mean for investors?

While signs of a turning point may be welcome news to those seeking a mortgage, rates are still around their highest levels since 2008. This is clearly having an impact on selling prices, with Zoopla reporting an 18% drop in buyer demand over the past two months, with the largest declines being recorded in the south of England.

Even so, there are a few rays of light. The UK House Price Index, which uses Land Registry data and includes cash transactions, is still in positive territory on a 12-month basis, up 1.9%. However, falling demand is disrupting chains, with those at the top likely to see would-be buyers ‘gazundering’ at the last minute, due to factors such as mortgage availability, affordability and down-valuing by banks.

Key takeaways

  • Of the 8.5m outstanding residential mortgages in the UK, around 80% are on fixed-rate terms.
  • By the end of 2024, half of all residential mortgages will have been impacted by higher interest rates.
  • Higher mortgage payments could create further economic headwinds ahead of the next general election.

All Images and content shown are reproduced with permission from Quilter Financial Planning.