Worse than expected inflation data worries investors – reaction from investment experts

by | Jun 21, 2023

Whilst on the surface, the fact that today’s announcement by the ONS shows that inflation for May remained at 8.7% might not cause too much alarm. But the shock news that core inflation has increased, means that this worse than expected data has worried investors, businesses and consumers alike – and for good reason too. With the Bank of England MPC due to report tomorrow, a further hike to base rates looks a certainty, it’s just a matter of how far they’ll go. And the risks of recession have taken a giant step forward too. It’s not a pretty picture.

Investment experts have been reacting to today’s inflation news, sharing their views, analysis and concerns with Wealth DFM as follows:

Marcus Brookes, chief investment officer at Quilter Investors said: “Today’s inflation figure will be a bitter pill to swallow for consumers, investors and the government. With CPI unchanged and core inflation rising, this confirms that the Bank of England has no choice but to raise interest rates tomorrow. Having jumped down from double digits last month, we are once left to wait for inflation to return to its downwards trajectory to normal levels. The UK really does seem to be suffering from a more unique set of circumstances and this is leaving the Bank of England with little choice, despite consensus that this inflation is driven more by supply issues than demand ones.

“Ultimately, while the UK consumer has held up fairly well in the cost of living crisis to date, we are starting to see signs of buckling, with the looming mortgage shock coming further into view and interest rates now beginning to bite on households. Subsequent rate rises are going to stoke mortgage fears further, but the Bank of England will feel like it has no choice, especially with core inflation now rising again.

“Unlike our US counterparts, there is unfortunately more pain to come in the shape of higher interest rates, and signs are pointing towards tomorrow’s rise not being close to the last. Any thoughts of a pause, let alone rate cuts, seems incredibly premature, highlighting the economic muddle the UK faces.

“While we await for the interest rate rises to date to properly take effect, for investors the message remains clear – stay calm and patient. Markets are forward looking and much of this economic strife will be priced in, although volatility will remain present should data surprise in the future. Quality companies and investments will be crucial to weather this storm and ensure inflation doesn’t come to hit your investments as well as the pound in your pocket.”

Tom Hopkins, Portfolio Manager at BRI Wealth Management, said: “UK inflation has been recorded at 8.7% year on year for May, unchanged from April’s figure and missing consensus expectations which was expecting a fall to 8.4%.

“Core inflation has risen to 7.1% from 6.8%, and this is the key concern. Core inflation is keeping UK inflation stubbornly high. We would have had downward contributions coming from fuels and food, unfortunately this would have been offset by rises in services inflation. At 8.7%, households will still be feeling the pain of the squeeze on budgets.

“The Bank of England meets tomorrow to decide interest rates, but given the strong rise in core inflation coupled with a surprisingly resilient economy, we believe a 50 basis point rise will be more in consideration for the Bank of England than the unanimous expectation of 25bp amongst economists.

“Inflation remains well above the 2% target rate and given Rishi Sunak’s target of halving inflation to 5% by the end of the 2023 that he pledged in January, maybe the Bank of England needs to do more.”

Craig Veysey, portfolio manager at Man GLG: “There isn’t much to like in today’s inflation data for the Bank of England. Core inflation in the UK rose somewhat higher than expected to 7.1%, and unlike other countries doesn’t yet seem to be responding to the aggressive series of rate increases that has taken rates from near 0% to 4.5% over the past 18 months. 

“In particular, core service sector inflation is broad based in the latest data and increases pressure on policymakers to continue with additional rate increases at upcoming meetings. We anticipate a 0.25% rate increase on Thursday though, as the Bank of England has been careful to point out the slow and variable impact of previous rate hikes on the UK economy. 

“A 6% terminal rate is now priced by markets, but this may be very difficult to achieve should the UK economy fall into recession.  Gilt yields also are now relatively attractive, at 4.4% for a 10 year bond, versus other markets at this stage for such a scenario.”

Charles White Thomson, CEO at Saxo UK, said: “The UK inflation print is highly disappointing and is another heavy blow for the beleaguered UK consumer. The UK is in an economic danger zone and worryingly it also shows that we and the Bank of England are continuing to lose the war to bring down or dominate enemy number one – inflation. Inflation is an elusive, wily and powerful foe especially when it builds up momentum, as it is now. There is a strong argument for a 50-basis point hike at tomorrow’s Bank of England’s meeting.  The Bank needs to take the initiative quickly.  The risk for further policy failure is real and the stakes are getting increasingly high.”

Rob Morgan, Chief Investment Analyst at Charles Stanley, comments: “UK inflation remained stubbornly high in May with CPI inflation unchanged at 8.7%, versus consensus estimates of a decline to 8.4%, creating huge problems for the Bank of England and for households.

“Price pressures continue to linger with the core reading, which strips out more volatile energy and food prices, actually rising to 7.1% from 6.8% in April. This suggests inflation is more entrenched than anticipated, with food and energy price inflation failing to recede enough to have much of an impact.

“The only crumbs of comfort for the Bank of England came from producer or factory gate prices, which rose by 2.9% in the year to May 2023, down from 5.2% in April. This indicates pressure is easing further up the supply chain and may start to percolate down.

“In the financial markets, bond markets have already sensed the oppressive inevitability of the UK’s inflation problem, which is making life tough for household finances already straining under the combined weight of food and energy costs. Higher bond yields equate to higher mortgage costs, either for those on variable rates, or for those whose fixed rate is ending.”

Royal London Asset Management’s senior economist, Melanie Baker, said: “The strong May inflation data will reflect a number of factors and there may be a fair bit of ‘noise’ in there given upward pressure this month from categories like computer games. However, even if some of the rise in core inflation in May was noise, domestically-driven inflation looks strong. Services inflation, for example, rose further. Although air fares and tickets to live music events will have played a role in that and may well prove temporary upward inflation drivers, it was striking how little downward pressure you could see across the main services components generally. Pay growth remained strong on the data released last week too.

“Today’s figures overshot the last set of Bank of England staff forecasts. The Bank have continued to signal that if inflation pressures prove more consistent then they will need to tighten monetary policy further. Consensus has been that they will raise the policy interest rate by 25bp at tomorrow’s meeting. However, there was already a case for them going 50bp and the data today supports that case. I would not be surprised if we see a 50bp rate rise from the Bank of England tomorrow.”

Daniele Antonucci, Chief Economist & Macro Strategist, Quintet Private Bank said: “Yet another upside surprise in UK inflation suggests that the Bank of England has more work to do.

Not only was the headline inflation number unchanged, the core figure, which strips out volatile components such as energy and food, did increase further.

“More generally, the outlook for inflation, with a tight labour market and strong wage growth, is one where price pressures look self-sustaining, in a loop whereby stronger wages lead to stronger inflation which leads to stronger wages and so on.

“This is likely to pour cold water on hopes that the Bank might be able to at least pause its rate hiking cycle in the near term, just like the Fed did earlier this month.

“Rather, looking at the next couple of monetary policy meetings, we think the Bank is likely to continue to tighten financial conditions and squeeze incomes further, with a rate hike again in August and then another one in September.”

Luke Bartholomew, senior economist, abrdn said: “The UK’s May inflation report is certainly ugly enough to keep the debate live about a 50bps hike from the Bank of England tomorrow. While the probability of such a move has increased, we still think a 25bps move is more likely, especially given the mounting dysfunctionality of the rates and mortgage markets. The importance of the coming period for a large stock of mortgage refinancing means that the Bank risks locking-in even more pronounced recessionary forces if it encourages rates markets much higher with a larger increase tomorrow. 

“However, we also think that rates will now need to move above 5%, and now pencil in a terminal rate of 5.25% ahead of the Bank’s decision tomorrow.”  

James Henderson, Portfolio Manager of Henderson Opportunities Trust and Lowland Investment Company:  “Today’s figures show that the inflation rate remains stubbornly high.. We must consider, however, that inflation tends to be a lagging indicator of where the real economy is. We have already seen some food prices fall quite dramatically – the price of barley, for example, has fallen around 40% – and we are seeing softness in certain parts of the labour market, neither of which are reflected by today’s headline figure.  

“Before inflation became the forefront issue that it is today, we were already seeing inflationary pressures in the market.

Steel prices, for example were rising quite rapidly and this wasn’t reflected in the headline figures at the time. In the same way that official figures were slow to reflect changes in the real economy before inflation took off, today’s figures are lagging in the other direction in that they don’t truly represent softness we’re seeing in the market right now.  

“This lag may be the reason the Bank of England was slow to put interest rates up to begin with, so investors will be watching to see how it responds to today’s figures when making its decision on interest rates tomorrow. Ultimately, investors are looking for a stabilisation and eventual reduction in rates to help combat some of the uncertainty they currently face.

UK companies have already reduced their costs in response to the current environment so a fall in interest rates could lead to an improvement in operating profits on a reduced cost basis. This is crucial in terms of building investor confidence back up, encouraging capital expenditure and helping to drive productivity in the UK.”

George Lagarias, Chief Economist at Mazars comments: “There’s no way to sugar-coat this, 8.7% is a bad number. Inflation has become entrenched and remains high versus other developed market economies. This number will compel policymakers, the Government and the Bank of England, to further clamp down on consumption, in order to break the wage-price spiral. We expect that growth will further decelerate, possibly even pushing the economy past the recession threshold, even as early as the Autumn.”

Isabel Albarran, Investment Officer at Close Brothers Asset Management: “Today’s inflation figures will likely keep MPC members awake at night: at 8.7%, not only is headline inflation ahead of the BoE’s own forecast, but core inflation has also accelerated. Compounding this, the UK’s tight labour market remains a significant concern, potentially exacerbating the strength in services prices. Labour data has cooled marginally, with the pace of new job openings in decline and redundancies edging higher, but wage growth remains too high for the Bank’s comfort.

“Inflation is still expected to cool this year, helped in a big way by energy prices and the return to relevance of the Ofgem price cap but, once the easy wins are behind us, employment needs to slow if the BoE is to get inflation sustainably below target.

“For investors, higher yields have renewed appetite for fixed income but this trade has had a sting in the tail. We had expected to see continued rate hikes in the UK over the coming months, but markets nowexpect Bank Rate to continue to increase into next year, and as far as 6%. This has pushed bond prices down and yields back up to “Truss-on omics” crisis levels.

“Mortgages may provide the bitter antidote to rising interest rate expectations. The greater popularity of fixed rate mortgages today means that the effective interest rate on the average outstanding mortgage was below 3% in May. With 1.3 million households expected to reach the end of their fixed-rate term in the second half of this year, that number is likely to rise sharply, inflicting pain on households and hindering consumption spending and growth. MPC members need to be counting cash-strapped home owners rather than sheep.”

Peder Beck-Friis, Economist at PIMCO said:  “At the last meeting, the Band of England (BoE) hiked by +25bps to 4.5% and kept it conditional guidance unchanged, indicating that more tightening would be needed if there were to be evidence of more persistent inflationary pressures. Since then, inflation has surprised meaningfully to the upside in two consecutive releases. 

“There are reasons to think some of the recent inflation surprises have been driven by one-offs, such as the start of the new taxation year in April leading to a sharp increase in prices of products linked to RPI; and the May surprise being in part driven by the timing of Easter. There may also be some impact on air fares during the Coronation period and additional bank holiday. That said, core inflation is increasing, not decreasing. 

“This will add pressure on the BoE to continue tightening in coming meetings. With core inflation and wage growth both close to ~7% (YoY), and the policy rate closer to 5%, the BoE has likely more work to do. We still expect a +25bp hike tomorrow, but today’s release certainly increases the chances the BoE goes by +50bps.”

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