The Office for National Statistics (ONS) has today reported the latest UK inflation data for the year to June 2023. It shows a fall in CPI inflation to 7.9% in June, down from 8.7% in the year to May, to the lowest level in over a year. Importantly, core inflation has also fallen by more than was expected, down to 6.9% from 7.1% last month.
But what does all this mean for investors? What about the prospect of further rises in interest rates? Does this reduction in the rate of inflation mean that we’ve turned the corner and can see the end in sight for the cost of living crisis? After all, it just means that prices aren’t rising as quickly as they were. But they are still rising – and at a rate well above the Bank of England’s 2% target. We’re guessing there will be some sighs of relief in Threadneedle Street today but what does all this really mean?
Investment and Economics experts have been sharing their views on the latest inflation data with Wealth DFM as follows:
Guy Foster, chief strategist at RBC Brewin Dolphin, said:
“June’s inflation report will be celebrated widely. After four extremely upside inflation surprises UK inflation undershot estimates. There was very little about the absolute numbers that would give policymakers much comfort. The annual rate of inflation declined but is still at a high level that would have been unthought of two years ago.
The monthly increase in CPI was a sedate 0.1% but benefitted from such a big drop in fuel prices, which are beyond the Bank of England’s control. Annual growth of the retail prices index remains in double figures. Despite still high inflation, an undershoot of expectations reassures investors that inflation has not become permanently unhinged from forecasts. This is a reassuring release, especially off the back of more encouraging trends from the US.
One swallow does not make a summer, but the US has been a few months ahead of Europe in the current inflation cycle and so hopefully, this presages further benign inflation news. Inflation will seem to decelerate sharply towards the end of the year, reflecting the very sharp price increases from 2022 that will no longer form part of the annual rate. The pound has dropped sharply on the news, as panic UK interest rate increases will seem less urgent now. For those holidaying in America this summer, spending money just got more expensive.”
Tomasz Wieladek, Chief European Economist at T. Rowe Price highlights that the market is overly excited by softer UK inflation print:
“While UK inflation fell by more than expected today, a lot of this improvement was due to energy and food prices. What the Bank of England really cares about is domestically generated and services inflation.
On domestically generated inflation, services inflation rose by 7.2%, lower than the 7.4% last month. Importantly, month-on-month services inflation was only 0.2% above what would be considered normal, relative to the 0.7% above normal in the last four months. This is certainly an improvement, but the data today also reveal significant upstream pressures in services inflation, meaning there is still a lot more services inflation in the pipeline.
Markets have repriced significantly as a result of this news, now only expecting a peak rate of 5.75%, versus 6.25% before this print. Furthermore, there is now only a 50% chance of a 50bps hike in August, while this was priced at close to 100% ahead of this release.
I think financial markets are attaching too much weight to this one inflation print, especially because the Bank of England is concerned about medium-term inflation. Here, the news is still very bleak. Wages inflation, which is the key determinant of services inflation in the medium term, remains at levels implying services inflation of 6-7% one year ahead.
The Bank of England’s battle against inflation will only be over once wage growth comes down significantly. Overall, the Bank of England needs to take out the heat out of the labour market to return inflation to its target in the medium term. We are still very far from this point. Therefore, I continue to believe a 50bps hike in August is the most likely outcome.”
The Bank of England’s war on wages will spur further rate hikes – Jeremy Batstone-Carr, European Strategist at Raymond James Investment Services said:
“Today’s fall in CPI inflation is a small step in the right direction for the UK economy, but high wage growth and stubborn underlying prices show there is still a long journey ahead to drag inflation back down into more stable territory.
With the inflation rate checking in at 7.9%, the June data has not delivered any nasty surprises, but prices still remain too elevated for the Bank of England to sit back and relax. Lower energy prices are the main driver behind the drop in headline inflation, with the simultaneous decline in food prices strengthening expectations that overall pressures will continue to ease.
That being said, underlying price increases have proved more difficult to shift, much to the concern of the UK’s central bankers. Some component parts are dropping, such as airfares, but the overall picture shows resilient prices, despite the aggressive rate hiking programme aimed at suppressing demand.
Expectations for persistent inflation are evident in wage claims. Private sector growth is at an uncomfortable 7.7%, while public sector wages are rising by 5.7%, their fastest pace in over 30 years. Interest rate setters will focus on breaking the country’s wage spiral when they meet next month. Another base rate hike is all but certain, heaping more pressure on households struggling to keep up with the cost of living.”
Commenting on households bearing the burden of the UK’s fight against inflation, Tom Hopkins, Portfolio Manager at BRI Wealth Management, said: “UK headline inflation came in at 7.9%, the lowest level since March 2022 and beating consensus expectations of 8.2%.
This is the first time in four months that the inflation figure for the UK has not exceeded forecasts in what should be digested as positive news for the UK markets. Core Inflation also fell back from its 31 year high of 7.1% to 6.9%.
Downward pressures on inflation in June is likely to come from auto fuel and food prices, which jumped in the same month a year earlier. Today’s Inflation print will be somewhat reassuring, however we still expect another interest rate rise in the UK at the Bank of England’s next meeting in August, albeit more likely a 0.25% rise now with further rises in Q3 and Q4.
Whilst today’s print will be seen as a positive, the UK is still behind the US and Eurozone in its fight against inflation. Therefore rates need to continue rising with the burden of higher borrowing costs continuing to be faced by households and corporates.”
Rob Morgan, Chief Investment Analyst at Charles Stanley, comments: “Falling inflation in the US and elsewhere had given hope that the UK’s sticky inflation might finally crack. Thankfully, there were indeed signs of more subdued price rises in June’s CPI print.
In contrast to the two-year low for US CPI, which recently fell to 3%, the UK’s special brand of more stubborn inflation is proving trickier to tame. However, policymakers now have evidence they are on the right track. Headline CPI inflation fell more than expected from 8.7% in May to 7.9% in June, versus consensus estimates of a decline to 8.2%.
It’s the first time inflation figures have come in lower than expected all year and gives the Bank of England (BoE) reason for cautious optimism.
Meanwhile, the core reading, which strips out volatile energy and food prices, eased from 7.1% to 6.9% having surprised to the upside in June and hit its highest point since 1992.
Fuel prices made the largest downward contribution to the CPI annual rate, and no doubt motorists have been thankful for easing prices at the pumps this year. Meanwhile, producer price inflation for goods is coming down nicely too. However, some areas remain sticky such as food and housing costs.”
What does it mean for interest rates?
“Getting the inflation genie back into the bottle has proven troublesome for the Bank of England. The UK has the highest rate of the G7 economies, and the highest rate in western Europe, but there is now light at the end of the tunnel.
Setting interest rate policy can be like an overly-sensitive shower dial. When the water is coming through too hot the dial needs to be turned to cool things down. However, turn it too far and you get an uncomfortable cold stream of water in the form of a recession. Today’s CPI print could mean the BoE chooses to ease off on the dial with a smaller 0.25% increase rather than a previously widely expected 0.5% one at the monetary policy committee’s next meeting on 3rd August.
Longer term, the Bank of England (BoE) still has more work to do than other Central Banks. In the US, for instance, it may be that just one more rise is sufficient. However, markets are no longer convinced that UK rates will peak above 6%.”
What is the impact on households?
“Despite today’s more encouraging inflation data, irradicating inflation will still take some more time and persistence from the Bank of England. That means households and investors getting used to structurally higher interest rates than they have been used to for much of the past decade.
While the Bank of England’s thirteen successive interest rate rises has already been unlucky for some, notably mortgagees whose favourable fixed rates have expired, the adverse environment is set to continue before it gets better. This will have progressively greater knock-on consequences for consumer spending as the months go by.
The pressure on households has been unrelating when it comes to food and many other household costs, and although there are early signs of this easing food inflation is still outstripping the overall inflation rate.
For savers, the increase in interest rates has been a welcome tonic compared with the dreary returns of much of the past decade. However, even the most competitive accounts pay significantly less than headline inflation meaning that the spending power of cash is stuck in reverse gear.”
“What does it mean for investors?
“UK government bond markets have rallied over the past week, much of which has been driven by positive sentiment from a lower than expected CPI print in the US. Inflation will likely remain more persistent in the UK, and the BoE faces a very different challenge to the US Federal Reserve, but this latest inflation data will likely add some fuel to the government bond rally.
The pound has been robust this year in the expectation that UK interest rates will peak and remain higher than in other countries in order to combat more persistent inflation. Today’s softer inflation reading has seen Sterling dip against other currencies. More widely, the pressure from inflation and interest rate worries could ease a little on UK assets with larger stocks with mostly overseas earnings under less pressure from the stronger pound.
However, this is only one reading. Inflation numbers can be notoriously volatile and the UK is by no means out of the inflation woods.”
Michael Metcalfe, Head of Macro Strategy, State Street Global Markets, comments on UK CPI:
“June’s inflation data will make welcome reading for Gilts and the BoE alike. But after upside surprises totalling a not so cool 1.5% in the past four-months, it will take more than just one month’s data to calm rate markets. The good news here is that online data from PriceStats, a web scrape of thousands of UK prices across a range of sectors, shows inflation continuing to fall month on month in the first half of July, after showing a similar contraction in June.”
Derrick Dunne, CEO of YOU Asset Management, commented: “CPI inflation might have fallen sharply in the 12 months to June, but savers and investors should hold off celebrating just yet.
Core inflation remains persistently high, notably within the clothing, healthcare, and communication divisions, among others.
With inflation still nearly four times the Bank of England’s 2% target – and with wage growth continuing to climb – we cannot rule out another interest rate hike come August.
We know that rate rises are the main weapon for central banks to discourage consumer spending, however they are an extremely blunt tool and can take between 9-12 months to be fully integrated into an economy.
So, even if the Bank holds rates next month, it’s almost inevitable it will find itself overshooting in its attempt to tame inflation – something which will have major ramifications for both consumers and the economy.
If the first half of 2023 has shown us anything, however, it’s that uncertain economic conditions do not mean poor investment returns. Investors should therefore keep their focus on maintaining a long-term, resilient portfolio and seek support from a financial adviser as needed.”
Daniele Antonucci, Chief Investment Officer, Quintet Private Bank (parent of Brown Shipley) comments on the UK inflation rate:
“The latest UK inflation report shows that inflationary pressures remain strong.
The good news is that headline and core inflation, which excludes volatile components such as energy and food, are both easing and, this time around, more than expected.
The bad news is that this is happening from still elevated levels of inflation and, by and large, appears to be mostly because of energy disinflation and, to some degree, a lesser pace of food price inflation.
What’s more, wage growth, which is a key driver of the all-important services inflation given that it has a large weight in the inflation basket, continues to be robust and the labour market remains quite tight.
Taken together, these figures suggest that the fall in core inflation from its 31-year high, while welcome, is unlikely to discourage the Bank of England from hiking rates at least a while longer.
Even though how far the rate increases will go remains unclear, we expect further weakness ahead as the impact of tighter financial conditions, the inflation squeeze and fiscal austerity all bite.
Our expectation is one where a weaker economy helps curb inflation and, therefore, contributes to pausing interest rate hikes.
But we see upside risks to that base case, especially if inflation and wage growth, while moderating over time, stay solid.”
James Lynch, fixed income investment manager at Aegon Asset Management:
“This is potentially a big turning point in the UK inflation story. After what seemed to be endless upside surprises and being perceived as having a bit of a ‘problem,’ today’s inflation print actually came in lower than the vast majority of economist predicted: 7.9% v 8.2% expected.
“Most components came in lower than expected, so this wasn’t driven by any one-offs. For next month’s print we are expecting another decent fall again to low 7% as energy prices will take a big month-on-month fall given the Ofgem price cap change. It takes a long time for the inflation narrative to change but we may be at the start of it, as the lagged effects of previous falls in commodity prices and input prices will start to feed through at the same time as the large base effects of food and energy will also start to work to bring down the headline rate.
“On the flip side are the high wages in the UK, running around 7%, which we know is currently too high for the Bank of England’s liking. However, there are signs of loosening in the labour market. With growth stalling around 0% and the fall in inflation to come, it is difficult to see this moving higher at least. For the immediate policy implications of this release, no doubt expectations for the Bank Rate will need to be moved lower. There was talk of 50bps or even what was needed for a 75bps move at the next meeting. It is now much more likely a 25bps move will happen on 3rd August to take the Bank Rate to 5.25%. Beyond that, it really will be data dependent.”
Ben Jones, Director of Macro Research at Invesco, comments:
“Headline UK inflation figures were certainly better than the consensus expected but the UK still has a worse inflation problem than the US or Europe. Core inflation remains sticky, only falling slightly to 6.9% and except for petrol prices the inflationary pressures remain present across all sectors.
I expect UK inflation will continue to fall over the coming months but in a fashion that is unsteady, and risks of upward surprises may arise from higher oil and energy prices. While petrol prices are lower over the last year for example, they rose last month, and base effects will be less supportive as we move through H2.”
