What the Bank of England Base Rate Cut Means for Investors
The Monetary Policy Committee (MPC) of the Bank of England has finally responded to calls for a cut in interest rates today, voting to reduce the base lending rate to 0.25% from 0.5%. In addition, the bank has provided further stimulus through extending its bond buying programme by £70bn, including £10bn of non-financial corporate bonds for the first time, mirroring action by the European Central Bank earlier this year.
Why has the Bank taken action?
Only a few months ago speculation centred on the timing of the next rate rise, with rates having been on hold at 0.5% for over seven years. But with signs of business sentiment slowing and the vote to leave the European Union bringing uncertainty for the foreseeable future this change will be a welcome move for businesses and investors alike.
Survey results released since the UK's decision to leave the European Union indicate that business sentiment has turned negative. The weak Purchasing Manager Indices (PMI) data released for July, for example, gave a strong indication that businesses have delayed activity in the immediate aftermath of the vote.
Earlier in the year the UK economy performed strongly in the run up to the referendum, with unemployment at a 10-year low and GDP growth at 2.5%. In the meantime, short-term measures of consumption – including credit card transactions and weekly retail sales data – point to economic activity holding up, despite the uncertainty. Following the vote to leave the European Union it’s inevitable that we will experience bumps in the road in the short term. There are risks, but we expect these to bring opportunities for investors as markets realign and political stability supports a sensible outcome to negotiations.
There are already signs that the post-Brexit weakness in sterling is helping to improve the competitiveness of the UK's exports in overseas markets. This is good news for FTSE100 companies and those with a global reach, many of which we have exposure to in portfolios.
Underlying fundamentals point to a healthy global economy
Globally, there are also signs that major economies remain healthy with no significant economic events on the horizon. In the US, the Fed gave a strong indication last week that it was likely to continue with monetary tightening and raise rates in September. We have also seen the US labour market deliver strong results, adding 287,000 jobs in June.
Markets had largely priced in a fall in rates based on the strong indications given by Governor Mark Carney after July's meeting. At the same time, the decision to extend quantitative easing by £70bn and provide a new Term Funding Scheme for lenders demonstrates the Bank’s commitment to supporting longer-term economic growth.
What does this mean for investors?
The initial market reaction to the news has been a 100 point rise in the FTSE 100 and a further fall in the already depressed 10 year Gilt yield. As we have commented previously, investors seeking income from Bond investments continue to be pressed in to taking additional risk, with dividend paying equities and commercial property seen as a way of bridging the gap.
In addition to this Sterling has weakened further as one would expect.
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