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Markets last week
Summary
The Bank of England (BoE) cut interest rates by 25 basis points (bps) to 4.5%, as expected, but the vote split surprised markets, with longstanding hawk Catherine Mann pushing for a larger 50bps cut
Mann’s shift is notable, but BoE Governor Andrew Bailey and his deputies continue to favour a more gradual approach to easing given the balance of risks
Markets reacted modestly to the cut, with rate expectations easing slightly; bond yields drifted lower, with the 10-year gilt yield falling 6bps to 4.48%
Corporate earnings season highlights a broadening recovery beyond US megacap stocks, with profit margin expansion suggesting a durable earnings cycle
European equities are seeing their best relative performance in a decade, supported by strong inflows, attractive valuations and clear potential catalysts
This week US CPI inflation is expected to remain at 2.9%, with core inflation slowing only marginally due to sticky services inflation and ongoing fiscal expansion
This week, UK GDP data is expected to confirm a Q4 contraction, reinforcing pessimism over growth and adding to the challenges facing the UK Labour government.
Market Review
Bank of England
The BoE’s decision to cut rates by 25bps to 4.5% was widely expected, but the vote split was a surprise. Most assumed hawkish committee member Catherine Mann would hold firm, yet she not only backed a cut but pushed for a larger 50bps reduction. Meeting minutes suggest she aimed to send a “clear signal” while keeping policy restrictive.
Mann’s shift, alongside longstanding dove Swati Dhingra, may reflect concerns over the UK mortgage market, where fixed-rate terms delay the impact of rate cuts. A sharper reduction could speed up passthrough to households, though this isn’t the prevailing view within the committee. Governor Andrew Bailey and his deputies are more cautious, and the BoE’s inflation forecasts remain slightly above the target in two year’s time.
Despite the dovish tilt, markets reacted modestly with rate expectations easing slightly. A gradual approach remains the base case, though a softening jobs market poses dovish risks. Bond yields drifted lower last week, with the 10-year gilt yield falling 6bps to 4.48%, reinforcing expectations of further easing ahead.
Corporate earnings
As we moved through peak earnings season last week, a robust corporate landscape developed further, with strength expanding beyond the US megacap stocks. This has been reflected in the broad market performance year-to-date. Profit margin expansion in the broader market suggests a widening earnings recovery, which could accelerate as productivity-boosting technologies filter through the economy.
European equities are enjoying their best relative performance in a decade. Fund inflows into European stocks reached their second highest in 25 years in January according to Reuters. Investors are hopeful that Germany might loosen its fiscal policy after elections, tensions in Ukraine could begin to stabilise and US tariffs might be less severe than feared.
Additionally, the recent volatility in Wall Street's artificial intelligence (AI) megacap stocks due to the arrival of a cheaper Chinese rival suggests market leadership could expand to neglected sectors where Europe is strong. Long-standing structural challenges, such as high energy costs and lack of energy independence still linger, but in the first six weeks of the year investors have been attracted by the valuation gap and potential catalysts.
From a sector standpoint financials have delivered strong Q4 results, with positive revisions outpacing other sectors. Large-cap technology companies have also reported solid results, with plans to increase capital investment in the coming year, particularly in AI, a key driver of their future growth. While significant capital spending announcements have raised concerns around returns on investment and future profitability, these investments signal confidence in AI's potential.
While challenges remain, the broadening of market leadership year-to-date - both within the US and globally - signals a durable earnings cycle ahead.
The week ahead
Wednesday: US CPI inflation
Our thoughts: Inflation is expected to remain at 2.9% although core inflation is expected to slow marginally. As we long anticipated, the last leg from 3% to 2% is proving more challenging. The remaining inflation is entirely driven by services - a part of the economy less sensitive to monetary cycles. Excessive government spending is contributing to sticky services inflation and with little chance of fiscal consolidation anytime soon (despite the efforts of Elon Musk and his Department of Government Efficiency), the path for inflation is uncertain.
Thursday: UK GDP
Our thoughts: Economists expect that the UK economy slipped into contraction in the fourth quarter. The UK faces mounting pessimism as its growth outlook deteriorates and negative GDP print would add to the challenges facing the Labour government.
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